i

PRINCIPLES OF BUSINESS LAW
QCF Level 5 Unit

Contents
Chapter Title Introduction to the Study Manual Unit Specification (Syllabus) Coverage of the Syllabus by the Manual 1 Nature and Sources of Law Nature of Law Sources of Law The European Union and UK Law: An Overview Common Law, Equity and Statute Law Custom Case Law Nature of Equity Application of Principles of Equity Equity and Common Law Classification of Equity Legal and Equitable Rights Nature of Statute Law Interpretation of Statutes Codification and Consolidation Appraisal of Statute Law Delegated Legislation The Law Relating to Associations 1: Corporations The Concept of Corporations Corporations in Law Companies Companies in Law Unincorporated Associations The Law Relating to Associations 2: Partnerships Partnerships Limited Liability Partnerships Contract Law 1: Fundamentals of Contracts and their Creation What is a Contract? The Agreement Classification of Statements and Terms Consideration The Intention to Create Legal Relations Capacity to Contract Page v vii xiii 1 2 5 8 15 17 18 24 26 28 29 31 31 34 38 38 39 43 44 44 46 54 74 75 76 87 93 95 99 108 111 119 121

2

3

4

5

© ABE

ii

Chapter Title 6 Contract Law 2: Contract Regulations Privity of Contract Joint Obligations Assignment Mistake Misrepresentation Undue Influence Void and Illegal Contracts Exclusion Clauses Contract Law 3: Performance and Discharge Performance Discharge by Agreement Discharge by Breach Discharge by Frustration Remedies for Breach of Contract Law of Agency 1: Agency Agreements and Agents General Nature of Agency How Agency Arises Ratification Categories of Agents Duties of Agents to their Principals Rights of Agents against Principals Commercial Agents (Council Directive) Regulations 1993 Law of Agency 2: Authority, Liability and Termination Authority of Agents Delegation of Authority Rights and Liabilities of the Principal to Third Parties Liability of the Principal for the Wrongs of the Agent Relations between Agents and Third Parties Termination of Agency Employment Law Distinction Between Independent Contractor and Employee Other Categories Consequences of Employment Status Contract of Employment Other Terms and Conditions

Page 123 125 130 131 133 140 143 146 154 161 162 165 167 169 174 183 185 187 191 194 197 203 206 209 211 214 216 217 219 223 227 229 236 238 242 246

7

8

9

10

© ABE

iii

Introduction to the Study Manual
Welcome to this study manual for Principles of Business Law. The manual has been specially written to assist you in your studies for this QCF Level 5 Unit and is designed to meet the learning outcomes listed in the unit specification. As such, it provides thorough coverage of each subject area and guides you through the various topics which you will need to understand. However, it is not intended to "stand alone" as the only source of information in studying the unit, and we set out below some guidance on additional resources which you should use to help in preparing for the examination. The syllabus from the unit specification is set out on the following pages. This has been approved at level 4 within the UK's Qualifications and Credit Framework. You should read this syllabus carefully so that you are aware of the key elements of the unit – the learning outcomes and the assessment criteria. The indicative content provides more detail to define the scope of the unit. Following the unit specification is a breakdown of how the manual covers each of the learning outcomes and assessment criteria. The main study material then follows in the form of a number of chapters as shown in the contents. Each of these chapters is concerned with one topic area and takes you through all the key elements of that area, step by step. You should work carefully through each chapter in turn, tackling any questions or activities as they occur, and ensuring that you fully understand everything that has been covered before moving on to the next chapter. You will also find it very helpful to use the additional resources (see below) to develop your understanding of each topic area when you have completed the chapter. Additional resources  ABE website – www.abeuk.com. You should ensure that you refer to the Members Area of the website from time to time for advice and guidance on studying and on preparing for the examination. We shall be publishing articles which provide general guidance to all students and, where appropriate, also give specific information about particular units, including recommended reading and updates to the chapters themselves. Additional reading – It is important you do not rely solely on this manual to gain the information needed for the examination in this unit. You should, therefore, study some other books to help develop your understanding of the topics under consideration. The main books recommended to support this manual are listed on the ABE website and details of other additional reading may also be published there from time to time. Newspapers – You should get into the habit of reading the business section of a good quality newspaper on a regular basis to ensure that you keep up to date with any developments which may be relevant to the subjects in this unit. Your college tutor – If you are studying through a college, you should use your tutors to help with any areas of the syllabus with which you are having difficulty. That is what they are there for! Do not be afraid to approach your tutor for this unit to seek clarification on any issue as they will want you to succeed! Your own personal experience – The ABE examinations are not just about learning lots of facts, concepts and ideas from the study manual and other books. They are also about how these are applied in the real world and you should always think how the topics under consideration relate to your own work and to the situation at your own workplace and others with which you are familiar. Using your own experience in this way should help to develop your understanding by appreciating the practical application and significance of what you read, and make your studies relevant to your

© ABE

iv

personal development at work. It should also provide you with examples which can be used in your examination answers. And finally … We hope you enjoy your studies and find them useful not just for preparing for the examination, but also in understanding the modern world of business and in developing in your own job. We wish you every success in your studies and in the examination for this unit.

Published by: The Association of Business Executives 5th Floor, CI Tower St Georges Square New Malden Surrey KT3 4TE United Kingdom

All our rights reserved. No part of this publication may be reproduced, stored in a retrieval system or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording or otherwise without the prior permission of the Association of Business Executives (ABE). © The Association of Business Executives (ABE) 2011

© ABE

v

Unit Specification (Syllabus)
The following syllabus – learning objectives, assessment criteria and indicative content – for this Level 5 unit has been approved by the Qualifications and Credit Framework.

Unit Title: Principles of Business Law
Guided Learning Hours: 160 Level: Level 5 Number of Credits: 18

Learning Outcome 1
The learner will: Understand the main sources and types of law. Assessment Criteria The learner can: 1.1 Describe what is meant by statutory law, common law and equity. Indicative Content 1.1.1 Describe the meaning of common law and explain the meaning of equitable principles and the situations where equitable remedies will be awarded in place of common law remedy of damages. 1.1.2 Know the equitable remedies of specific performance and injunction and when they would potentially be awarded. 1.1.3 Know how statutory law is applied by the courts in practice. 1.1.4 Know how cases are reasoned by the courts in practice (link to ratio decidendi). 1.1.5 Know how the courts apply the common law in practice. 1.2.1 Identify the different types of cases and determine their ratio decidendi. 1.2.2 Understand the civil ‘burden of proof’. 1.2.3 Know how to apply the decisions made in decided cases (facts and/or ratios) in order to resolve a given examination scenario and/or factual question. 1.3.1 Identify the different types of cases and determine their ratio decidendi. 1.3.2 Know the criminal ‘burden of proof’. 1.3.3 Know how to apply the decisions made in decided cases (facts and/or ratios) in order to resolve a given examination scenario and/or factual question

1.2 Illustrate how the ratio decidendi for a civil case is used and applied to case law.

1.3 Illustrate how the ratio decidendi for a criminal case is used and applied to case law.

© ABE

vi

Learning Outcome 2
The learner will: Understand the different types of business organisation. Assessment Criteria The learner can: 2.1 Describe what constitutes a traditional partnership or firm under the Partnership Act 1890. Indicative Content 2.1.1 Know what constitutes a partnership (or firm) under the Partnership Act 1890. 2.1.2 Know the different types of partner which a firm can have. 2.1.3 Understand the different types of partner a firm can have, including an agent. Understand the rights and duties of partners in their capacity as agents for their firm in the absence of an agreement to the contrary. 2.1.4 Know that the liability of partners, in the absence of a partnership agreement to the contrary, is joint and several. 2.1.5 Know how firms can be dissolved, and that it is possible, in the absence of a partnership agreement to the contrary, for a firm to be dissolved with or without statutory intervention 2.2.1 Know the main differences between a traditional partnership and a limited liability partnership (LLP), which is governed primarily by the Limited Liability Partnership Act 2000, and the Limited Liability Partnership Regulations 2001 which detail the rights of members of the LLP. 2.2.2 Know that an LLP has a separate corporate personality. 2.2.3 Know that an LLP normally has to have a written incorporation document, which has to be submitted to the Registrar of Companies. 2.2.4 Any member who wishes to leave an LLP can do so in accordance with the LLP agreement. Where no agreement exists, the member can leave by giving reasonable notice. 2.2.5 Know that members of an LLP normally will not contribute in the event of the LLP being wound-up. 2.2.6 Be aware that substantial portions of the Companies Act 2006 apply to LLPs, e.g. the minority protection provisions. 2.2.7 Be aware that a member of an LLP can be disqualified from an LLP member or company director under the Companies Directors Disqualification Act 1986 and that a member of an LLP can be charged with fraudulent trading. 2.3.1 The effect of registration and becoming a body corporate, under the Companies Act 2006, following receipt of the new company’s certificate of incorporation. 2.3.2 Know what is meant by ‘separate corporate

2.2 Describe the differences between a ‘traditional’ partnership and a limited liability partnership, which is governed primarily by the Limited Liability Partnerships Act 2000.

2.3 Describe what constitutes a registered company limited by shares.

© ABE

vii

personality’ and where this principle comes from. 2.3.3 Know the advantages of being a registered company limited by shares. 2.3.4 Know the disadvantages of being a registered company limited by shares. 2.3.5 Know the meetings that can and need to be held in companies, under the Companies Act 2006. 2.3.6 Know what an ordinary resolution and a special resolution are, and when they might be needed. 2.3.7 Know how companies are financed (shares and debentures, secured by a charge, e.g. floating charge).

Learning Outcome 3
The learner will: Understand the essential elements of a contract. Assessment Criteria The learner can: 3.1 Define and explain the law relating to offers and invitations to treat. Indicative Content 3.1.1 Identify what constitutes a contract (Treitel). 3.1.2 Know what constitutes an invitation to treat. 3.1.3 Distinguish between an offer and an invitation to treat, explaining why this distinction is important. 3.1.4 Know what is meant by vague offers, counter offers, revocation of offers, and the ways in which an offer may be terminated. 3.1.5 The willingness of parties to accept an offer 3.2.1 The essential characteristics of a valid acceptance. 3.2.2 The communication of acceptance including the postal and instantaneous communication rules. 3.2.3 Know when the postal rule can be relied on as a method of acceptance, including the fact that it will still apply if a letter is lost. 3.2.4 Know when the postal rule will not apply. 3.3.1 Know how the courts find whether a social and domestic agreement is, or is not, legally binding. 3.3.2 Know how the courts find whether a commercial agreement is, or is not, legally binding. 3.4.1 Know what constitutes valid consideration. 3.4.2 Know the three different types of consideration. 3.4.3 Know that the performance of an existing contractual obligation does not constitute sufficient consideration. 3.4.4 Know that performance of an existing public duty does not constitute sufficient consideration. 3.4.5 Know the rule in Pinnel’s case (1602) and its exceptions, and, be able to apply it in practice.

3.2 Define and explain the law relating to acceptance.

3.3 Define and explain the law on intention to create legal relations.

3.4 Define and explain the law relating to consideration.

© ABE

viii

3.5 Distinguish between a term and a representation

3.5.1 Distinguish between a term and a representation. 3.5.2 Know that the remedy available for a breach of contract depends on whether the particular wording of a statement is a term or a representation. 3.5.3 Know that whether a statement becomes a term of the contract or not depends on the intention of the parties. 3.5.4 Know that four factors may be taken into account by the courts when ascertaining the intention of the parties: the importance of the statement to the parties; the respective knowledge of the parties; the time the statement was made, and whether the statement is included in a written contract.

3.6 Define and explain the different types of contractual terms.

3.6.1 Know what an express contractual term is. 3.6.2 Know what a condition is. 3.6.3 Know what a warranty is. 3.6.4 Know the difference between a condition and a warranty. 3.6.5 Know what an innominate term is. 3.6.6 Know what an exclusion clause is. 3.6.7 Know the three ways that exclusion clauses may become incorporated into a contract under the common law. 3.6.8 Know about unfair contractual terms in the context of exclusion clauses only. 3.6.9 Know what a penalty clause is. 3.7.1 Know what constitutes duress including economic duress and undue influence. 3.7.2 Know about the types of misrepresentation. 3.7.3 Identify and explain when a contract is void or illegal. 3.7.4 Understand what a restraint of trade clause is, and be aware of the reasons for their existence in contracts. 3.7.5 Know the rules in relation to contracting with minors.

3.7 Define and explain the law in relation to vitiating factors.

Learning Outcome 4
The learner will: Understand the law on discharge and breach of a contract. Assessment Criteria The learner can: 4.1 Discuss the various forms of discharge of contract. Indicative Content 4.1.1 A person must perform exactly what he has promised to do. Doing something differently from that which has been agreed, even though it may be commercially more valuable to the other party, is not performance in law. Even the slightest deviation from the agreed terms will entitle the other party to claim that the contract has not been performed.

© ABE

ix

4.1.2 Know what is meant by prevention of performance. 4.1.3 Know what is meant by partial performance, and whether it can ever be accepted by the other party. 4.1.4 Know what is meant by substantial performance. 4.1.5. Know that there are four ways in which a contract can be discharged by agreement: by release; by accord and satisfaction; by rescission, and by some provision contained in the contract itself. 4.1.6 Know the various different ways in which a contract can become frustrated and be able to apply relevant law to a scenario. 4.2 Explain the rules and remedies 4.2.1 Know that all ‘breaches of contract’ entitle the which are relevant to parties in the innocent party to damages, but the right to treat the event of a breach of contract. contract as discharged (at an end) arises only if the breach is serious, e.g. where there has been a breach of fundamental condition of the contract. 4.2.2 Know the consequences of a failure of performance. 4.2.3 Know about anticipatory breach. 4.2.4 Know the rule in Hadley v Baxendale. 4.2.5 Be able to apply the rule in Hadley v Baxendale to a scenario question, as well as discuss the elements of this rule individually. 4.2.6 Know about the common law remedy of damages. 4.2.7 Know that all claimants have a duty to take reasonable steps to mitigate their loss, e.g. by looking for other employment.

Learning Outcome 5
The learner will: Know and understand the legal rules in relation to agency. Assessment Criteria The learner can: Indicative Content

5.1 Identify what is meant by an 5.1.1 Know what is meant by an agent in the law of agent and a principal and describe agency. their rights and duties. 5.1.2 Know the rights of an agent. 5.1.3 Know the duties of an agent. 5.1.4 Know the Commercial Agents (Council Directive) Regulations 1993. 5.2 Describe how an agency relationship can be created and terminated. 5.2.1 Know that an agency can be created by express agreement or implied agreement. 5.2.2 Know that an agency can be created by estoppels, e.g. if you have a reasonable belief that an individual has the right to act for another party (the principal). 5.2.3 Know that an agency can be created by necessity in certain circumstances, and what these are.

© ABE

x

5.2.4 Know that an agency can be created by ratification and as a result of the principal taking the decision to ratify the act(s) concerned. 5.3 Identify the different types of agent and the different types of authority that an agent can have. 5.3.1 Know all the different categories of agent, including commercial agents under the 1993 Regulations (see above).

Learning Outcome 6
The learner will: Know the legal rules in relation to the areas of employment law identified. Assessment Criteria The learner can: 6.1 Distinguish between a contract of service and a contract for services and explain how the courts determine a worker’s true employment status. Indicative Content 6.1.1 Know that there are two different types of employment status that a worker can have: (1) employee (employed under a contract of service); (2) an independent contractor (employed under a contract for services). 6.1.2 Today the multiple test is the only test which is applied by the courts to find out a worker’s true employment status. The original multiple test was later amended by the entrepreneurial test and it should, therefore, be seen as an expansion of the original multiple test in the Ready Mixed Concrete case (1968). The second and third conditions of the original test are important when applying the entrepreneurial test to the original multiple test in order to determine whether a worker is an employee in reality. 6.2.1 Employment protection rights. Only employees have the following statutory rights, assuming that in redundancy and unfair dismissal cases they have accrued the qualifying period of continuous service (respectively two and one years): to receive a minimum period of notice of his employer’s intention to terminate his employment, and receive a written statement of employment particulars within two months of the commencement of employment. Remember that the courts look at the contractual terms of a worker as a whole and take substance (i.e. what has been concluded about the other contractual terms) over form for tax purposes. So just because it says in a question that a worker is self employed it does not mean that, in reality, they are. 6.2.2 Common law employment terms are implied in all contracts of employment. Some of the most important ones are: mutual trust and confidence; the duty of an employer to protect all his employees against reasonably foreseeable risks to their health, safety and welfare; entitlement to welfare benefits e.g. statutory maternity pay and a higher rate of sick pay; liability for income tax varies as to whether you are classed as an employee or independent contractor.

6.2 Identify the legal and economic consequences associated with a contract of service and a contract for services.

© ABE

xi

6.2.3 Vicarious liability: an employer is generally vicariously liable for the negligent acts committed by his employees during the course of their employment, but such liability is severely restricted in the case of a contract for services. The employer will normally only be liable in such circumstances if he delegated performance to another. Whether or not an employee is ‘acting in the course of employment’ is a question of fact. 6.3 Identify the implied duties owed by an employer to his employees. 6.3.1 There are six implied common law duties owed by an employer towards his employees, as specified below. 6.3.2 Payment of reasonable remuneration. This common law rule can be varied by an express or implied term to the contrary. Thus if the contract states that there shall be no payment during a lay-off or in respect of short-time working, the employer will be under no obligation to pay. 6.3.3 To indemnify his employees for expenses reasonably incurred in the course of their employment. 6.3.4 Protection against reasonably foreseeable risks to their health, safety and welfare, which include psychiatric injury sustained e.g. as a consequence of work-related stress. 6.3.5 To maintain mutual trust and confidence. The employer has a duty not to behave in a manner judged to damage the relationship of trust and confidence. 6.3.6 To provide a reference. An employer is under no legal obligation to provide an employee or an exemployee with a reference. 6.3.7 Not to disclose confidential information to third parties about his employees ‘without their permission’.

© ABE

xii

© ABE

xiii

Coverage of the Syllabus by the Manual
Learning Outcomes The learner will: 1. Understand the main sources and types of law. Assessment Criteria The learner can: Manual Chapter

1.1 Describe what is meant by statutory law, Chaps 1 & 2 common law and equity 1.2 Illustrate how the ratio decidendi for a Chap 2 civil case is used and applied to case law 1.3 Illustrate how the ratio decidendi for a Chap 2 criminal case is used and applied to case law 2.1 Describe what constitutes a traditional partnership or firm under the Partnership Act 1890 2.2 Describe the differences between a ‘traditional’ partnership and a limited liability partnership, which is governed primarily by the Limited Liability Partnerships Act 2000 2.3 Describe what constitutes a registered company limited by shares 3.1 Define and explain the law relating to offers and invitations to treat 3.2 Define and explain the law relating to acceptance 3.3 Define and explain the law on intention to create legal relations 3.4 Define and explain the law relating to consideration 3.5 Distinguish between a term and a representation 3.6 Define and explain the different types of contractual terms 3.7 Define and explain the law in relation to vitiating factors 4.1 Discuss the various forms of discharge of contract 4.2 Explain the rules and remedies which are relevant to parties in the event of a breach of contract Chap 4

2. Understand the different types of business organisation.

Chap 4

Chap 3

3. Understand the essential elements of a contract.

Chap 5 Chap 5 Chap 5 Chap 5 Chap 6 Chap 6 Chap 6

4. Understand the law on discharge and breach of a contract.

Chap 7 Chap 7

© ABE

xiv

5. Know and understand the legal rules in relation to agency.

5.1 Identify what is meant by an agent and a principal and describe their rights and duties 5.2 Describe how an agency relationship can be created and terminated 5.3 Identify the different types of agent and the different types of authority that an agent can have 6.1 Distinguish between a contract of service and a contract for services and explain how the courts determine a worker’s true employment status 6.2 Identify the legal and economic consequences associated with a contract of service and a contract for services 6.3 Identify the implied duties owed by an employer to his employees

Chap 8

Chaps 8 & 9 Chaps 8 & 9

6. Know the legal rules in relation to the areas of employment law identified.

Chap 10

Chap 10

Chap 10

© ABE

1

Chapter 1 Nature and Sources of Law
Contents
A. Nature of Law Definition Classification of Laws Criminal and Civil Liability The Set of Rules Objectivity Enforcement Impartiality The Rule of Law

Page
2 2 2 3 4 4 4 4 4

B.

Sources of Law Unwritten Law Written Law The Pattern of English Law The Law of the European Union

5 5 6 6 6

C.

The European Union and UK Law: An Overview Composition of the European Union Institutions of the European Union Application of Union Law The European Union and Interpretation of Law Parliamentary Sovereignty and the European Union The Treaty on European Union 1992 (The Maastricht Treaty)

8 8 8 9 10 11 13

© ABE

2

Nature and Sources of Law

A. NATURE OF LAW
Definition
The word "law" is difficult to define, particularly as it is used in many different ways. It contains, however, the concepts of orderliness, universality and objectivity. It is concerned with behaviour and not with causes, and either contains an element of inevitability, e.g. scientific laws, such as the laws of gravity, or of sanction, e.g. divine laws. Some philosophers have postulated the existence of natural law by which they mean the Law of God which regulates the actions of mankind. This concept is often known as the principles of natural justice. In the narrower concept of law, there must be a set of rules which can be applied objectively with someone to enforce them. There have been many attempts to put these into a workable definition, some more successful than others. One of the better is that of Salmond: "Law consists of any principle which is recognised and enforced by the courts in the administration of justice." Another, which is possibly superior to that of Salmond, since it has a slightly wider application, is that of James: "A body of rules for the guidance of human conduct which are imposed upon and enforced among the members of a given state."

Classification of Laws
Salmond, after stating that law in its general sense includes any rule of action, says that it includes the following categories.   Imperative law These are rules of action imposed on men by authority, for example by the State. Physical or scientific law These are rules which formulate the uniformities of nature, for example the law of gravitation. You can distinguish them from man-made laws, in the sense that they merely state observations on a state of affairs that already exists.  Natural or moral law These are rules formulating the principles of natural justice. This conception of law is derived from Greek philosophy and Roman law, and has found more favour with Continental jurists than in English jurisprudence. It overlaps to some extent with physical or scientific law. In the English language, law and justice are two separate words, showing that we recognise them to be two separate things – a distinction that is not made in most other languages.  Conventional law These are rules agreed upon by persons for the regulation of their conduct towards each other. Agreements entered into by, for example, the parties to a contract or members of a company (who agree to be bound by the rules of its Articles of Association) are enforceable under the law of the land. Other agreed systems of rules, e.g. the rules of a football club or the laws of chess, may not be enforceable by law.

© ABE

Nature and Sources of Law

3

Customary law These are rules of action embodied in custom. We shall consider later the importance of custom in the development of the English legal system.

 

International law These are rules which govern sovereign states in their relations with each other. Civil law This is the law of the State, as applied in the State's courts of justice. It is into this category that English law falls.

Criminal and Civil Liability
In essence, it can be said that a crime is a wrong against the State, while a civil wrong is one against an individual or organisation. You should note the following major distinctions.  State action and private action In the case of a crime, while under certain circumstances an individual may prosecute, the prosecution will normally be brought by the State. In a civil wrong, such as breach of contract, the injured party may bring an action against (or "sue") the party liable, and may recover damages or other forms of satisfaction, such as an Injunction, for example.  Redress and punishment The purpose of a civil action is to redress a wrong, whereas the aim of a criminal prosecution is to punish the wrongdoer, to prevent him/her from repeating the crime and to discourage others from committing similar crimes.  Settlement and withdrawal A criminal action can be withdrawn only with the leave of the Crown, whereas the claimant in a civil action can settle out of court or withdraw his/her claim at any time.  Indictment and Claim Form Criminal proceedings are initiated by indictment or summary procedure, whereas civil proceedings are commenced by action resulting from the issue of a Claim Form. A fundamental difference thus exists between criminal law (dealing with crimes) and civil law (dealing with civil wrongs) and each branch is, in general, administered by different courts on different principles. Criminal law Criminal law is concerned with offences against the State, i.e. crimes such as murder, burglary and theft. The more serious criminal cases are dealt with by a judge and jury; less serious offences (the overwhelming majority) are dealt with by magistrates. The two parties are the prosecution and the accused or defendant. The prosecution is conducted on behalf of the Crown via the Crown Prosecution Service or, in important cases, by the Attorney-General. If the accused is found guilty by the jury, he/she is convicted and sentenced by the judge; if not, he/she is acquitted. Civil law Civil law is concerned with private litigation, for example breaches of contract and disputes concerning property. The claimant issues a Claim Form, setting out the facts he/she alleges against the defendant and asking for damages or other remedy. The defendant puts in a defence to the allegations of the claimant. Under normal circumstances, the case is dealt

© ABE

4

Nature and Sources of Law

with by a judge alone; a jury is rarely found in the civil courts, unless one of the parties makes special application that a jury should be summoned. If there is a jury, it decides the facts of the case and the judge decides the law. Then, the judge, if the jury has found for the claimant, will make the appropriate order, and usually award the claimant his/her costs. It is the jury, however, which fixes the amount of the damages. If the case goes in favour of the defendant, the judge will normally award costs to be paid by the claimant. Should the judge be sitting alone without a jury, he/she decides both fact and law, the amount of damages, and all other matters.

The Set of Rules
Law, then, must consist of a set of rules which are known or readily discoverable by those who must obey them. It is, of course, a maxim of English law that "ignorance of the law is no defence". However, this does not mean that each citizen is expected to know all the rules which are in force – which is clearly impossible – but that knowledge of them is available, since they are all published. The citizen, therefore, must have a general idea of the principles upon which English law is built, for example rights of property, person and contract, and must be prepared to consult an expert in law for finer points, when necessary. A permitted defence of ignorance of the law would, clearly, make the administration of justice impossible.

Objectivity
"No man can read the thoughts of another" is a principle of wide application in law. Clearly, no authority can impose sanctions upon the thoughts of its subjects, although in some societies in the past this has been attempted. The law will recognise motives but only as far as they are apparent and can be imputed from the actions following them. In other words, it is with actions, and not with thoughts and feelings, that law is concerned.

Enforcement
It is essential, if law is to operate efficiently, that it should operate only within an area controlled by an effective government. This may vary for different laws, since there may be different authorities operating within the same area, for example State law and Federal law in the United States of America, and bylaws of local authorities in England – but, nevertheless, the principle of territorial limits is preserved. If a government loses control of an area of its territory, in that portion its law will not prevail. It is the duty of the government of the area concerned to make its laws effective by establishing a judicial machinery for the investigation of alleged breaches of the law and for the enforcement of the law by sanctions, i.e. penalties or rewards designed to influence the human will to conform to the law.

Impartiality
Although it is not an essential component of law, in most civilised countries it is regarded as fundamental that the rules of law should apply to all citizens alike. This principle of impartiality is one of the principles of natural justice which has influenced English law in particular.

The Rule of Law
The Rule of Law is an essential doctrine of the British constitution. It is not a written code of rules but a general principle implicit in the common law which the courts will apply, unless some statute can be quoted modifying its application. It has three important aspects. (a) No person can be punished except for a definite breach of the law, established in the ordinary law courts of the land.

© ABE

Nature and Sources of Law

5

(b) (c)

No person is above the law and everyone must bear the legal consequences of his/her own acts, i.e. there is equality before the law. There is an absence in the UK of any special body of courts to try cases where the citizen is in conflict with the government, unlike in France where litigation between citizens and state officials is dealt with by special administrative courts.

It is often said that it is from the principle of the rule of law that all forms of British liberty – personal liberty, liberty of speech and of the Press, liberty of meeting and discussion – are derived. During the 20th century the growth of the welfare state was necessarily accompanied by a huge increase in legislation and a corresponding increase in the State's interference in the lives of individuals. To this extent the Rule of Law may seem to have been eroded, but it is still valid and of importance.

B. SOURCES OF LAW
We will now discuss the various sources from which English law is derived.

Unwritten Law
 Common law Common law was originally based on the merging of the various local customary laws of England as a result of the decisions of the royal judges. In fact, in the law report of Henry IV in the 15th century, it is said: "The common law of the realm is the common custom of the realm." It is, therefore, unwritten, since it depends originally upon a judge's interpretation of the customs of the realm. When we come to discuss the importance of case law in the English judicial system, we shall show that the decisions of judges are, in fact, binding under the doctrine of Judicial Precedent, but this does not invalidate the fact that the basis of common law is essentially unwritten, although cases heard in the courts appear in written law reports. The reports only relate the unwritten law. You should note, at this point, that the expression "common law" has come to be used in four distinct senses. (a) (b) (c) Historically, to denote the body of law common to all England that arose to supplant the previous local systems of law. As opposed to Equity (see below). As opposed to statute law, also considered below. Thus, in this sense, it is sometimes said that a certain rule of common law was modified by an Act of Parliament. (d) To mean the whole body of English law, including Equity and statute law, as distinguished from any foreign system of law. Thus, we frequently speak of "the common law countries", meaning England, the USA and those Commonwealth countries which have adopted English law, especially when we wish to contrast them with European countries, such as France and Germany, the legal systems of which have been strongly influenced by Roman law.

Just as the Romans had their "jus civile" as the basis of their law, so English common law lies at the foundation of the English legal system. The law of torts is almost wholly based upon common law, as is a good deal of English contract law. Common law has

© ABE

6

Nature and Sources of Law

played its part in the development of the complicated system of English land law, and has covered departments of public law like constitutional law.  Equity Like common law, Equity is also based on judicial decision, and not upon written rules. It originally stemmed from the Chancellor's interpretation of what was fair and just according to his conscience and, while in time it became rigid, it was originally flexible. Its basis is, again, unwritten.

Written Law
We have not yet discussed statute law because it was a later development than common law and Equity. It is true that, from Norman times onwards, decisions of the King-in-Council had the effect of law, but the promulgation of new laws was very rarely carried out, and Magna Carta (1215) is usually regarded as the first published statute. A statute is a written law passed by the approved legislative process of the state, i.e. nowadays by the Queen-in-Parliament, and it supersedes any other forms of law. Thus, statute law can override both common law and Equity, since it is enacted by the sovereign power and is therefore superior to custom and judicial decision. Here, an important distinction must be made between "the law" and "a law". The former is the whole body of law, as defined at the beginning of this chapter, while "a law" is a written statute or an order made on the authority of a written statute. Thus, "a law" refers only to statute law. You need to understand this distinction clearly, since it sometimes serves as a basis for examination questions. It is important to appreciate that, since the UK is a member of the European Union (EU), EU legislation overrides English law, and English legislation must not conflict in any way with the Treaty of Rome and its implementing legislation in the form of Directives and Regulations. To that extent, EU law must now be regarded as a source of law in England.

The Pattern of English Law
From what we have already said, we can see that English law is composed of three strands. The bulk of English law is common law, which is based on customs and case law. This is modified and supplemented by Equity, which is based on the principle of moral and abstract justice, rather than upon customary law, and is again chiefly represented by case law. Finally, statute law, enacted by the sovereign authority of the State, is increasingly important in the modern state and is superior in status to both common law and Equity. The diagram below illustrates the pattern. The Law Statute Law The supreme law Common Law Custom Case law Equity An addition to and modification of the common law

The Law of the European Union
The accession of the UK to the European Community, as it was then, on 1 January 1973, introduced a system of supranational law in accordance with the Treaty of Rome (which established the EC in 1957) and the UK's Treaty of Accession. Since that date legislation

© ABE

Nature and Sources of Law

7

has been passed, and continues to be enacted, aimed at fitting European Union law into the English system and the existing framework of parliamentary sovereignty. EU law is either embodied in the Treaty of Rome – in which case it is often referred to as the primary legislation of the EU – or it is derived from the Treaty and termed secondary legislation. The following are the principal forms of EU secondary legislation.  Regulations Regulations have direct internal effect in member states. They are mainly "selfexecuting", although sometimes they may have to be supplemented by national legislation. In general, they relate to detailed, technical aspects of the EU agricultural policy, transport, customs duties, etc.  Directives Directives do not have direct internal effect but oblige the governments of member states to ensure that the requirements laid down in them are fully implemented, usually by national legislation. The Directives state, in broad terms, what has to be done, but leave to the member states the details of implementation. Examples are the various Directives on Value Added Tax and Company Law. The European Court of Justice is the EU's supreme judicial authority; there is no appeal against its rulings.  Decisions These are usually concerned with specific problems or issues, and they are not necessarily directed to the EU as a whole. They may be addressed to the government of an individual member state, in which case they impose binding obligations but do not have direct internal effect as law in that state. Alternatively, they may be addressed to companies or individuals in one or more member states. Since the date of UK membership of the EU, the sources of EU law have become sources of English law. The sources of EU law are essentially the Treaty of Rome (primary legislation); secondary legislation (mainly Regulations and Directives); and precedents established by the European Court of Justice, which constitute developing sources of law. The European Court of Justice sits in Luxembourg, and consists of 27 judges and eight Advocates-General; one judge and one Advocate-General are from the UK. Its main function is to ensure that the law is observed in the interpretation and application of the Treaty, and it is the final arbiter on all legal questions falling within the scope of the Treaty. Apart from its role in interpreting EU law, the Court deals with disputes between member states on EU issues, and between member states and EU organisations. It also hears actions brought by a member state, by the EU Commission, by the EU Council, or by any individual regarding matters covered by the Treaty. Individuals and companies may challenge in the Court the legality of Regulations, Directives, etc. only in so far as these are of direct concern to them. One Article of the Treaty of Rome, in particular, has an important effect on the administration of justice by UK courts. Article 234 gives jurisdiction to the European Court of Justice to make preliminary rulings on the interpretation of the Treaty, and the validity of actions taken by the institutions of the EU. Where such a question is raised before any court or tribunal of one of the member states, the court or tribunal may, if it considers that a decision on the question is necessary to enable it to give a judgment, request the Court of Justice to give a ruling on it. If the question of interpretation arises before a court from which no further appeal is possible in the national court system, that court must submit a reference to the European Court of Justice.

© ABE

8

Nature and Sources of Law

Remember that all EU law overrides English national law, in the event of conflict or inconsistencies. Furthermore, Parliament has a duty (under international treaty law) to refrain from passing legislation conflicting with EU law. This duty has major implications as regards the judicial interpretation of Acts of Parliament. Referring to the Treaty of Rome, Lord Denning stated: "In any transaction which contains a European element we must look to the Treaty ..., for the Treaty is part of our law. It is equal in force to any statute. It must be applied by our courts." Note, therefore, that EU law, future and present, is automatically binding in the UK, in many cases without local enactments. Judicial notice is taken by English courts of such EU law. Orders in Council and Regulations may be used in the UK to implement EU laws in matters of detail. The whole of existing English law which was inconsistent with EU law was repealed by implication on the UK's accession to the EC, as the EU was then known.

C. THE EUROPEAN UNION AND UK LAW: AN OVERVIEW
Because of the importance of the effect of EU law on UK law, we shall look briefly at the composition of the Union and its institutions, as well as some of the significant issues relating to the UK legal system.

Composition of the European Union
When Parliament enacted the European Communities Act 1972, which came into effect on 1 January 1973, Britain became a member of the three European Communities:    European Economic Community (i.e. the Common Market or EC) European Coal and Steel Community (ECSC) European Atomic Energy Community (Euratom).

As a member state, Britain became subject to Community, now European Union, law. As at April 2011, there are 27 countries in the European Union with a further five countries with applications pending. The EU is a separate legal entity in international law. As far as the UK is concerned, the country acceded to the Treaty of Rome in 1971 and became a full member of the EU following the European Communities Act 1972. The EU is made up of a number of component parts, having legislative, executive and judicial functions, but the main purpose of the EU is economic and political. The UK has to conform, along with other member states, to EU law, and we will look at the conflict between national and EU law as regards the English legal system later. We will first look at the various bodies making up the EU.

Institutions of the European Union
 The Council of Ministers This is the supreme legislative body, although its powers are limited by having to proceed on proposals from the Commission on most matters. The role of the Council of Ministers is to take executive and legislative decisions and co-ordinate the policies of member states, under the terms of the Treaties. The Council comprises government ministers from each member state and the presidency rotates among them every six months. The Council is assisted by a small civil service of permanent officials called the Committee of Permanent Representatives, with headquarters in Brussels. The Council works in close cooperation with the Commission, discusses their proposals and ensures that national

© ABE

Nature and Sources of Law

9

interests are represented. The heads of government of member states meet to discuss important issues at meetings called European Councils.  The Commission The Commission is made up of individuals appointed by the member states, with representation depending on the size of the member states. The numbers can be altered as new states are admitted to membership. Individual members are appointed for a period of four years. The President and Vice-President are appointed from amongst the members for a two-year period. The members are chosen for their experience and total independence and are not regarded as representatives of their respective governments. The Commission is aided by a substantial civil service working in concert with the Council of Ministers and the Parliament (see below). The Commission has executive functions and ensures that the provisions of the Treaty of Rome and other decisions of the EU are carried out. It also helps to draft EU law. It is misleading to view the Council as the legislature and the Commission as the executive, since the Commission also has legislative powers and the implementation of policy is the responsibility of the institutions of the member states. The Council enacts all important measures but cannot amend Commission proposals except by unanimous agreement. The Commission is the representative body with non-member states and administers EU funds. It answers solely to the Parliament.  The European Parliament This is the elected body of the EU, and consists of 785 democratically elected European MPs (or MEPs) from all member states, of which 78 are from the UK. It has advisory and supervisory functions. It has no legislative powers – in fact, the only power it has is to dismiss the Commission by a motion of censure passed by a twothirds majority. The general role of the Parliament is a consultative one, considering proposals from the Commission before they are sent to the Council. A failure by the Council to seek the opinion of the Parliament may leave their actions open to question.  The Court of Justice of the European Communities and the Court of First Instance We looked at the composition and functions of the court earlier in the chapter.  The Court of Auditors This court monitors all financial transactions in the European Union on behalf of taxpaying citizens.

Application of Union Law
As we have already noted, EU law is distinct from national law but exists in parallel with it and, where the two conflict, EU law prevails. Some aspects of EU law are directly applicable in the UK (treaties and regulations) and confer rights and duties which must be recognised by the courts of member states. They pass straight into local law without the need for approval of the parliaments of member states. Directives do not automatically become the law in member states but are instructions to make law within the legislative machinery of each country within the prescribed time limit. Decisions are binding on the member state or corporation within that state to whom they are addressed. Decisions are usually of an administrative nature, e.g. granting authority for some action or providing exceptions to a particular legal rule.

© ABE

10

Nature and Sources of Law

Section 52(1), European Communities Act 1972 states: "All such rights, powers, liabilities, obligations and restrictions from time to time created or arising by or under the Treaties and all such remedies and procedures from time to time provided for by or under the Treaties are without further enactment to be given legal effect or used in the United Kingdom, shall be recognised and available in law, and be enforced, allowed and followed accordingly." Similarly, as regards secondary legislation, Article 249 of the EC Treaty states: "A ruling shall apply generally. It shall be binding in its entirety and take direct effect in each member state. A directive shall be binding as to the result to be achieved upon each member state to which it is directed, while leaving to national authorities the choice of form and method. A decision shall be binding in its entirety upon those to whom it is directed." This concept of direct applicability raises two important constitutional issues. Firstly, whether EU law takes precedence over the law of the individual member states, and secondly, the extent to which parliamentary sovereignty – giving unfettered law-making powers to Parliament – is extinguished by membership of the EU.

The European Union and Interpretation of Law
 The effect on the courts The law of the EU has had an effect on our domestic courts and case law (precedent). If a superior court from which there is no appeal (e.g. the House of Lords) is dealing with a case concerning interpretation of a European treaty or the validity or interpretation of regulations and directives made by the EU, it must refer the case to the European Court for a ruling on the question, unless the correct interpretation is clear. Under Article 234, the Court does not interpret national law but merely decides and delivers a general interpretation of EU law, as it applies to the case referred. It is then the responsibility of the domestic court of the member state to enforce the ruling. If it cannot because, for example, of national constitutional doctrine then the member state is expected to amend its own laws as soon as possible. Where the member state does not do this it can be brought before the Court by the Commission. However, the Court may only make an unenforceable declaration in judgment against the government of that member. The Court does not have the power to determine that legislation is void for inconsistency with EU laws. In this respect, it is unlike the Supreme Court of the USA. The seeking of clarification by the Court of Justice may lead to a consistent interpretation of EU law throughout the Union.  The effect on case law The importance of EU law in relation to existing case law was considered by Lord Denning MR in Bulmer v. Bollinger (1974). He observed: "The Treaty does not touch any of the matters which concern solely England and the people in it. They are not affected by the Treaty. But when we come to matters with a European element, the Treaty is like an incoming tide. It flows into the estuaries and up the rivers. It cannot be held back. Parliament has decreed that the Treaty is henceforward to be part of our law. It is equal in force to any statute." It is thus likely that if a particular law of the EU is contrary to a binding precedent of English law, a court lower in the English court hierarchy may ignore it and base its decision on the EU law.

© ABE

Nature and Sources of Law

11

Parliamentary Sovereignty and the European Union
A White Paper published in 1967 on the subject of EU law and parliamentary sovereignty stated that Parliament, in acceding to the Treaty, would be bound to refrain from enacting legislation inconsistent with EU law. However, parliamentary sovereignty is still important, since properly enacted legislation via the Queen, Lords and Commons is binding and any repeal of the 1972 Act could be effected in this way. The courts have always presumed that Parliament does not intend to derogate from international treaties and conventions, and if any inconsistency arises, the judges would presume that it is Parliament's intention that EU law should prevail. However, Lord Denning had this to say about instances where there is a clear inconsistency: "Thus far I have assumed that our Parliament, whenever it passes legislation, intends to fulfil its obligations under the Treaty. If the time should come when our Parliament deliberately passes an Act with the intention of repudiating the Treaty, or any provision in it, or intentionally of acting inconsistently with it and says so in express terms, then I should have thought that it would be the duty of our courts to follow the statute of our Parliament." Academic opinion leans to the view that the 1972 Act is entrenched and fundamental like the Act of Union 1707 or the Bill of Rights 1689, and it has even been suggested that the EU is a new legislative organ additional to the organ of Parliament. Section 3, European Communities Act 1972, binds the UK to accept the rulings of the European Court which has stated several times (see above) that the Parliament of member states may not legislate inconsistently with EU law. This seems inevitably to involve a rejection of the doctrine of parliamentary sovereignty and curtailment of the legislative powers of Parliament, both antecedent and subsequent. Thus, in addition to existing domestic law being inconsistent, Parliament cannot pass new laws on a matter already dealt with by the EU except to implement its details. In Costa v. ENEL (1964) the Court said: "The member states, albeit within limited spheres, have restricted their sovereign rights ... no appeal to provisions of internal law of any kind whatever can prevail." The European Council agreed at its meeting in Luxembourg in 1985 to adopt five new policy initiatives, which became embodied in the Single European Act 1986 (SEA) following its ratification by the national parliaments of all the member states. This ratification was completed by 1 July 1997, the date the Act came into force. The five new policy initiatives were:      The Internal Market Monetary Capacity Social Policy Economic and Social Cohesion Research and Technological Development.

The Internal Market One of the most important of the objectives is the establishment of the Internal Market. What, then, is the Internal Market? Its characteristics are defined under the Act as "an area without internal frontiers in which the free movement of goods, persons, services and capital is ensured in accordance with the provisions of the Treaty of Rome". The member states declared in an annexe to the SEA their firm political will to take the necessary decisions to complete the Internal Market before 1 January 1993. A further declaration annexed to the Act, however, also indicated that member states could derogate

© ABE

12

Nature and Sources of Law

from their obligations under the Treaty of Rome in certain policy areas. These policy areas are: (a) (b) (c) controlling immigration from third countries combating terrorism, crime and trafficking in drugs illicit trading in works of art and antiques.

It is the view of some critics of the SEA that the extension of the power of the member states so declared derogates from their obligations beyond those found in the original Treaty. In specific terms, the aim of the SEA 1986 is to complete the process of economic integration by removing the technical barriers, which required goods to be checked at the frontiers between the member states so as to ensure they conform to certain technical and safety standards. Each member state has the responsibility of ensuring that goods produced within its territory and intended for export satisfy the standards agreed for the whole of the European Union, thus avoiding the necessity of further boundary checking when they are conveyed into another member state. It also specifically proposed that private individuals could purchase goods in any European Union country and take them home without paying any customs duties, provided these goods were for their own private use – this aim was realised on the establishment of the Single Market on 1 January 1993. Some limitations to economic integration still remain, mostly attributable to member states having retained separate excise duties and individual imposition of different rates of VAT, a form of indirect taxation. Decision-making The SEA 1986 also heralded two major changes in the EU's decision-making processes, which were designed to accelerate the voting procedure in the Council of Ministers and to give increased powers to the European Parliament. (a) The Council's voting rules under the Act provide for simple majorities (principally for procedural matters), qualified majorities (for infilling existing policies) and unanimity (for new policies, or if the Council wishes to change a Commission proposition against the wishes of the latter). A qualified majority is comprised of 74% of the votes of the member states, weighted by size. Unanimity can be secured with abstentions, except that in relation to qualified voting, abstentions have the same effect as votes cast against. The SEA 1986 gave the European Parliament the power to consider proposals brought forward by the Commission and agreed in principle by the Council of Ministers. Proposals in certain policy areas were declared to require the approval of an absolute majority of members of the European Parliament before becoming law – these areas include treaties between the EU and "third countries" and the accession of new member states into the EU. The SEA 1986 devised a "co-operation procedure" mainly to facilitate the introduction and implementation of measures aimed at creating the Internal Market. Initiation and promotion of such EU legislation was retained by the European Commission, followed by consideration by the Council of Ministers. The European Parliament was also granted the facility to give an opinion on the Commission's proposals, and the Commission could, but was not obliged to, modify its proposals according to any such opinion expressed. Other matters The SEA 1986 also dealt with the following matters:  open tendering for public works contracts

(b)

© ABE

Nature and Sources of Law

13

 

codification of the mutual recognition of qualifications awarded by member states reduction of state aid to individual industries.

The Treaty on European Union 1992 (The Maastricht Treaty)
At their meeting on 11 December 1991 in Maastricht, the then 12 member states of the European Union agreed and published the text of a Treaty on European Union, which was subject to ratification through national referenda. It emphasised the "three pillars" on which European unification is to be based – the European Community in the form it had developed by 1991, the progression towards a common foreign and security policy, and co-operation on justice and interior affairs. Amongst the specific proposals contained within the Treaty, the following were of special note:      a common European currency by 1999 a charter of rights for "European Union citizens" increased powers for the European Parliament the introduction of a common foreign and security policy new powers for the European Union.

N.B. The EEC later became known as the European Community (EC). The growth in the number of countries in the EC to 12 in 1986 led, in due course, to the Maastricht Treaty being signed in 1992, where all the countries decided to adopt the new title European Union (EU). This latter term is now used to refer to all European matters.

© ABE

14

Nature and Sources of Law

© ABE

15

Chapter 2 Common Law, Equity and Statute Law
Contents
A. Custom General Customs Particular Customs Conventional Usage Advantages and Disadvantages of Custom

Page
17 17 17 18 18

B.

Case Law History of Case Law Operation of the Doctrine of Precedent Classification of Precedents Reversal, Overruling and Disapproval of Precedents Advantages and Disadvantages of Case Law Law Reporting

18 19 19 20 22 23 24

C.

Nature of Equity Definition History Basis Superiority of Equity

24 24 25 25 25

D.

Application of Principles of Equity Uses (Trusts) The Statute of Uses Mortgages Specific Performance Injunctions Other Reliefs not Available at Common Law

26 26 27 27 28 28 28

E.

Equity and Common Law Relationship of Equity and Common Law Contribution of Equity to English Law

28 28 29

(Continued over)

© ABE

16

Common Law, Equity and Statute Law

F.

Classification of Equity The Exclusive Jurisdiction The Concurrent Jurisdiction The Auxiliary Jurisdiction

29 29 29 30

G.

Legal and Equitable Rights

31

H.

Nature of Statute Law History Records of Statutes The Sovereignty of Parliament

31 31 31 32

I.

Interpretation of Statutes Rules of Construction Aids to Construction Interpretation of EU Legislation

34 34 36 37

J.

Codification and Consolidation Codification of a Legal System Consolidation

38 38 38

K.

Appraisal of Statute Law Advantages Disadvantages

38 38 39

L.

Delegated Legislation Definition Types Advantages Disadvantages Control over Delegated Legislation

39 39 39 40 40 40

© ABE

Common Law, Equity and Statute Law

17

A. CUSTOM
Customary law, which is the foundation of our common law, predominates at the beginning of all social history. Before the Norman Conquest, the various local laws were made up of rules of human conduct, established by usage, and administered in the popular courts by the Freemen of the district. Common law was long identified with customary law, even after the binding decisions of judges (precedents, or case law) had become the true bulk of English common law. Custom, in the legal sense, may be defined as: those rules of human action established by usage which are adopted by the courts because they are followed by the political society as a whole or in part. The Law Merchant originated from custom and is now followed because this custom is embodied in many precedents, some of which are embodied in enacted law or statutes. In modern law, custom has been practically superseded by legislation, or statute law, which either legalises a custom or annuls it.

General Customs
There is a distinction between customs that are general and customs that are particular or local. The former prevail over the country as a whole and are effective as the common law. Certain requirements are necessary before a custom can become a particular source of law.  It must be reasonable – that is, it must conform to the general view of right and reason prevailing in the community. The courts are not at liberty to override a custom because it falls short of their own ideal of right and justice. It should not be in conflict with statute law. No custom can take away the force of an Act of Parliament, which cannot be set aside by the development of a custom to the contrary. It must be generally followed and observed as of right by the members of the community. Should members of a community consider themselves free to depart from the custom and thereby deny their obligation to accept it as binding, the custom has no legal significance. In English law, at any rate, a local, though not a trade, custom must be "immemorial" – it must have existed for so long a time that the "memory of a man runneth not to the contrary". This refers to the legal memory of man, which has long been supposed to date back to the beginning of the reign of Richard I (1189–1199). So, if a disputant can prove that a custom did not exist at any time after this date, this custom will not receive legal validity. Note that the upholder of a custom need not prove it did exist in 1189: if he/she can prove that it has existed for a substantial period, to rebut it the disputant must prove its non-existence, as above. In other words, the presumption of time immemorial can be raised by proving that it has been observed for a long time; to be void, its beginning must be proved later than the 12th century, e.g. by showing that it originated from legislation of a later date.

Particular Customs
Particular customs need not be in conformity with common law, provided that they do not conflict with any other particular custom in the locality. Mercantile customs were a form of particular custom, and have been accepted as a source of law generally. In their case, time immemorial yields to universality of usage. They are still a possible, though not frequent, source of law, and show that the Law Merchant is not dead.

© ABE

18

Common Law, Equity and Statute Law

You should note that any custom, general or particular, that fails to satisfy all of the essentials normally required, is not, thereby, debarred from having legal consequences. If the existence of any custom is proved as a fact, it definitely influences decisions on cases dealing with contracts or torts. Trade customs or usage need not be of antiquity. If recognised by the merchants, the courts will uphold it: Bechuanaland Exploration Co. v. The London Trading Bank (1898).

Conventional Usage
Distinct from the two varieties of custom is a third type, which we may term conventional usage. This is not strictly "custom". A usage is an established practice, the effect of which is to incorporate, expressly or impliedly, a term in the contract between the parties concerned. There are usages particular to a special trade, or a special market. The law assumes that, in the absence of any expressed declaration to the contrary, the contracting parties intended to contract in reference to the established usages in the trade, which usages are binding as part of the contract. Therefore, the effect of any established usage is to add a binding term to the contract. Any such usage must be clearly established in the particular trade, and when once judicially recognised – by the courts – it cannot be changed by a later contradictory usage.

Advantages and Disadvantages of Custom
In comparison with statute law, custom has a number of disadvantages:     it is not quickly made but requires time to evolve it is definite and therefore, more difficult to prove it is difficult to repeal, unless by statute fresh customs are rare.

On the other hand, as a custom has evolved from a consensus of the people following it, it is more likely to be generally acceptable, and ethically good. Generally speaking – that is, apart from the continued existence of a few purely local customs – the common law of the realm no longer consists of the common custom of the realm. Practically all the general customs have received judicial notice or parliamentary codification and they have, therefore, become either case law or statute law – see Magor and St. Mellons RDC v. Newport Corporation (1952).

B. CASE LAW
The old theory was that the common law was simply a type of customary law applicable to the whole kingdom; in fact, the term "law" was considered synonymous with the term "common custom". As we have seen, this identification was rescinded very early, as royal judges began to formulate a body of law built up on their decisions, which sometimes were, and sometimes were not, in accordance with particular or general customs. These duly recorded decisions, called precedents, are responsible for the bulk of English common law. We may regard precedents as a distinguishing feature of English law, and also its real core. The term refers to those decisions of judges which are authoritative and binding. They are sometimes termed judiciary law; judicial precedents; precedents; case law; adjudication; but in all cases the term refers to the rule of conduct enshrined in the decision or judgment of a judge, or judges.

© ABE

Common Law, Equity and Statute Law

19

History of Case Law
The royal judges, during the first two centuries after the Norman Conquest, gave their judgments either in the royal court at Westminster or on their journeys; decisions would normally be based on existing or assumed customs. As their aim was to unify the law, they probably circulated to each other "reports" of their decisions, in order that later judgments in similar cases would be framed similarly. There were also the "Rolls" of the courts, to which the judge could refer. Towards the end of the 13th century, some anonymous reporters began to record the arguments of the pleaders and the judge's ruling, and the members of the legal profession found these notes so interesting for reference and study that Year Books (annual volumes), of such records arose. Reports of cases by anonymous reporters continued from Edward I's reign to Henry VIII's, probably written by students or practising lawyers attending the courts. These were succeeded by reports compiled by professional lawyers, and published in printed volumes bearing the author's name. They contained a statement of facts in the issue, a summary of the pleaders' arguments, and the verbatim judgments of the judges. Naturally these Year Books were not so complete or accurate as modern Law Reports, but they assumed an ever-increasing importance. At first, they possessed persuasive authority only; they were evidence that such was the law, but judges were not bound to accept the decision as binding on them. Still, the mere fact that the judges admitted the principle of uniformity of law led to the playing of an increasingly important role by these reports, and greater weight was attached to the citation of decided cases. Thus, in time, greater regard came to be paid to former decisions but it was only towards the end of the 18th century that the doctrine of the binding force of precedent became accepted by the judges. About this time, Continental countries were codifying their respective legal systems, with a view to making the law more certain and ascertainable. England did not resort to a codification of the law but, in its place, adopted the doctrine of the binding force of precedent, which has the effect of making rules of law of more certain authority, so far as they have come before the courts in litigation. Present position The current position is that courts are always bound by decisions of higher courts, and sometimes by those of courts of equal status. Case law enjoys merit, in the sense that it is usually of finer workmanship than statute law, for the following reasons.   Judges know more about the law than Members of Parliament. When a judge is laying down new law in pronouncing his/her decision in an action, the judgment is based upon the concrete facts of the case. Parliament, on the other hand, legislates more for the future.

Note that judicial precedent is a source of law, and not merely evidence of the law.

Operation of the Doctrine of Precedent
A judge is obliged to decide the case before him/her by reference to a previous decision when the conditions for the operation of the doctrine of precedent are satisfied. These are that the previous decision is, so far as its ratio decidendi is concerned, relevant to the determination of an issue of law in the case in question, and that the prior court's decisions are authoritative for his/her court, e.g. it is a court that is superior in the hierarchy. N.B. When a judge sums up a case, s/he will usually resort to making a statement, within which two elements may be found: firstly, the ratio decidendi (literally “the reason for the judicial outcome”), i.e. a declaration of the legal principles upon which the judge arrived at

© ABE

20

Common Law, Equity and Statute Law

the final decision. Secondly, obiter dicta (literally, “things said „by the way‟”), i.e. how the decision might possibly have been different given altered circumstances. Function of the doctrine of precedent The function of case law is to develop the law, whether common law or statute law. For centuries the prevailing view was that judicial decision was merely a declaration of what the existing law was; a judge is "not delegated to pronounce a new law, but to maintain and expound the old law" (Blackstone). He and his predecessors regarded the judges as the repositories of the entire body of customary principles that had existed from time immemorial, and their decisions as evidence of such customary rules of conduct. However, it is clear, for example, that legal rules referring to radio and television broadcasting can hardly have existed from time immemorial, but have arisen as the need for them developed. In point of fact, all judges have been entrusted with the power to make rules for cases not provided for previously and, in this sense, they make law, but not as a legislative body does. Their decisions, although evolutionary, are never revolutionary, but are developments of existing rules, and always conform to the general principles of the law of the land as a whole. So-called innovations are simply extensions and modifications, and are natural expressions of the growth of the common law, in consonance with the current ideas and the changing needs of society. A judge cannot decide, as a legislator does, as he/she pleases. Some standard must be applied, whether it be that of a previous decision, or the opinions of legal writers, or Equity, or some other consideration. Although, in strict legal theory, judges do not make law, it can be argued that they make law in the following limited ways: (a) where there is no existing precedent which is directly relevant to the case before them, then they must extend the existing law to cover the new situation by analogy – see Marks & Spencer v. One in a Million (1998), and R v. Human Fertilisation & Embryology Authority ex parte Blood (1997). where they overrule an existing precedent, frequently because there are other conflicting precedents where they distinguish precedents cited before them, and so limit the scope of the previous rule.

(b) (c)

Classification of Precedents
Precedents can be conveniently divided into three classes, according to the nature of their binding force. (a) Authoritative or absolutely binding In these cases, precedents are legal sources of law, and must be followed without question. Absolute authority is accorded to the decisions of the Supreme Court (formerly the House of Lords) the highest English court. However, in 1966, by a formal Practice Statement, the House of Lords judges announced that, in future, they would not regard themselves as necessarily bound by their own decisions. The Practice Statement said: "Their Lordships regard the use of precedent as an indispensable foundation upon which to decide what is the law and its application to individual cases. It provides at least some degree of certainty upon which individuals can rely in the conduct of their affairs, as well as a basis for orderly development of legal rules. Their Lordships, nevertheless, recognise that too rigid adherence to precedent

© ABE

Common Law, Equity and Statute Law

21

may lead to injustice in a particular case and also unduly restrict the proper development of the law. They propose, therefore, to depart from a previous decision when it appears right to do so." In fact, there have not been many occasions since 1966 when the House of Lords/Supreme Court has departed from a previous decision. One major example is Herrington v. British Railways Board (1972) where the court departed from an earlier decision: Addie v. Dumbreck (1929), concerned with the duty of care owed to a child trespasser. Every court is absolutely bound by the decision of all courts superior to itself in rank. The Court of Appeal is bound by its own previous decisions, but the High Court and the lower courts are not bound by their own decisions. At the lower end of the court hierarchy, the Crown Courts, Magistrates' Courts and County Courts do not create precedents. (b) Conditionally binding While a lower court cannot question the decisions of a court of superior authority, it is not bound to accept the judgment of a court of equal status. Generally speaking, however, conditional precedents will be followed by courts of equal status, unless they are clearly undesirable. Consequently, in course of time, conditional precedents acquire almost absolute authority and, being followed by subsequent decisions, ultimately become binding. (c) Persuasive Persuasive precedents are those that do not intrinsically establish the law, but may be followed by courts because they are considered to truly state the law. There is no obligation to follow them. Examples of such precedents are:      the decisions of inferior courts on superior courts the decisions of the Judicial Committee of the Privy Council or Supreme Court in appeals from the Commonwealth the decisions of other courts of the Commonwealth foreign judgments statements of law by British judges, which go beyond the case in point – these are called obiter dicta (remarks by the way).

The ratio decidendi, or the principle of law on which the decision of a judge is based, must not be confused with the opinions expressed by him/her either to explain or illustrate the law. Judges express the reasons for the formation of their decisions and this process of reasoning is a vital part of the precedent. Their obiter dicta, however, have no binding force but have persuasive opinion only, the value of which depends upon the reputation of the judge in question. Obiter dicta pronounced by judges in the House of Lords/Supreme Court, for example, carry great persuasive authority. (d) Declaratory and original precedents A further distinction is often referred to – declaratory precedents, which merely declare the existing law and original precedents, which, by applying a new rule, create or make new law. The old theory was that all precedents are declarations of customary law but, as we have seen, the common law is not, by any means, customary only. Moreover, as regards the principles of Equity, these were not to be found in either custom or statute, but had their source entirely in judicial decisions, the various Chancellors making new law in their judgments.

© ABE

22

Common Law, Equity and Statute Law

Strictly speaking, there is no fundamental contradiction between the "declaratory" and the "original" theory of precedents. Precedents both declare the law and make it. Every legal decision is a step forward in the development of the law. Even when judges profess openly that they are merely declaring the law by applying an acknowledged rule, since no two sets of facts are precisely the same, the judges by their decisions are adding to the existing rule and, therefore, are developing the law as they administer it. Therefore, precedents are declaratory as being evidence of old law, but are original as sources of new law. (e) Extending and "distinguishing" precedents We must note another factor which makes for flexibility under the doctrine of precedent (and sometimes, perhaps, for uncertainty and the possibility of confusion). Judges have some latitude to modify the effects of even authoritative or absolutely binding precedents by "extending" the effect of a decision of which they approve, and by restrictively "distinguishing" precedents of which they disapprove. As an example of the latter we may consider the case of Priestley v. Fowler (1837) which laid down the rule that a master should not be liable for injuries suffered by his servants in the course of their employment, if the injury was caused through the fault of a fellow-servant. This doctrine of common employment as it came to be called, was from the outset unpopular with lawyers and it became increasingly disliked. The judges were bound by the decision, but they restricted its effect by confining its application as far as possible. (The doctrine was modified by statute in 1880 and finally abolished by the Law Reform (Personal Injuries) Act 1948.) A precedent is said to be "distinguished" when the court sitting to decide a later case finds that the facts of the case before it are sufficiently different from those of the original precedent to make the precedent inapplicable – see, for example, the case of Balfour v. Balfour (1919) and Merritt v. Merritt (1970). Since the facts of no two cases can be exactly alike, you will see that the power given by this device is a considerable one. Conversely, when a precedent is regarded by lawyers as being desirable and beneficial in its effect, judges may be persuaded to enlarge its application as far as possible, by extending the principle concerned to cases where the facts are not strictly similar.

Reversal, Overruling and Disapproval of Precedents
You will appreciate, therefore, that the effect of "distinguishing" is that a precedent may not continue to be binding indefinitely. A precedent can also cease to be binding and a judge can refuse to follow it as a result of the following.   Reversal – the decision of the case is reversed on appeal because the appeal court disagrees with the principle laid down by the lower court and finds for the other party. Overruling – where similar facts come before the court in a later case, then the higher court may decide the case on a different legal principle, thus "overruling" the previous precedent. A precedent may also be overruled by a subsequent statutory provision which reverses its effect. Disapproval – where a higher court in a judgment expresses doubts about the validity of a previous rule but does not expressly overrule it.

© ABE

Common Law, Equity and Statute Law

23

Advantages and Disadvantages of Case Law
We can now set out the comparative merits and defects of case law. The advantages can be listed as follows.  Case law is practical and concrete; this is because it is the product of a set of facts upon which a decision must be reached. It is not the result of academic theorising, but of actual everyday difficulties. It is more flexible than legislation. Further, because of its binding nature, people can regulate their conduct with confidence in its certainty. It is more easily and quickly made than legislation, and this is particularly important where adaptation of the law to minute differences of circumstances is required. It acts as the best preparation for statute law. Codifications such as the Sale of Goods Act 1979 and the Bills of Exchange Act 1882 are the outcome of judicial decisions, and are models of statute law. Its detail is much richer than any code of law (but against this must be set its complexity). Unlike statute law, there is harmony between new precedents and existing law, which grow concurrently.

  

 

The disadvantages can be listed as follows.  It is not made by the community but by the judges. However, Parliament can, and does, overrule judicial decisions, as it did in the case of Burmah Oil v. Lord Advocate (1965), by passing the retrospective effect of the War Damage Act (1965). The judges are strictly impartial and highly expert – probably more so than a body of legislators. As case law adds an increasing number of exceptions to unwanted rules, it is notorious for its bulk and complexity. It is a difficult form of law to handle but, as legislators now endeavour to anticipate judicial decisions, the statute law itself tends to become more bulky and involved, too. Case law is often criticised as being retrospective in effect or "ex post facto". Theoretically, of course, judicial decisions merely give effect to principles that have always existed in the body of the law. This peculiarity does not always operate fairly, for a decision may upset long-standing interests by its retrospective operation. Finally, it is difficult to disentangle that part of the judicial decision which is strictly a binding source of law (the ratio decidendi) from "things said by the way", i.e. obiter dicta. Hypothetical opinions are to be carefully distinguished from the material facts of the case on which the decision, via judicial reasoning, was based. Material facts are those that influenced the tribunal in its conclusions; these are the essential parts. Other facts not relevant to the ratio decidendi must be disregarded. When precedents are quoted against precedents in cases where the facts are similar, the precedent with the greater number of material facts similar to the case in dispute is normally followed. Naturally, this balancing of precedents is a highly difficult and technical process and, even when this complicated process has been completed, a higher tribunal may later reverse the accepted authoritative precedent, which may have been of an inferior court. This makes for uncertainty in the law. To the above must be added the fact that reports differ in accuracy, intelligibility and completeness.

© ABE

24

Common Law, Equity and Statute Law

Law Reporting
The system of case law, as you will see, depends on there being available accurate reports of all the important decisions of the superior courts. A full law library runs to some thousands of volumes of reported cases, with all of which the practising lawyer is, in theory, familiar. (In practice, of course, the best that even the best lawyers can achieve is to know how and where to seek the authorities they require.) The earliest period of reporting is that of the Year Books, from 1283 to 1535. Many were written in "law-French", the language of medieval lawyers. Today, they are of more interest to the legal historian than to the practising lawyer, because it is not often necessary to go so far back for an authority. From 1535 to 1865 was the period of "private" law reporting. Barristers and judges would report and publish cases considered to be of legal interest, and the law reports of this period are "labelled" according to the name of the lawyer reporting them. Like the Year Books, these reports are somewhat uneven in quality: the reports of the famous Sir Edward Coke, covering the years 1572 to 1616, enjoy very high repute. In 1865, the period of "official" law reporting began, with the creation of the General Council of Law Reporting. The Council is responsible for issuing reports of important decisions of the superior courts, and these are labelled according to the year and the court making the decision. The official reports are "authorised", i.e. the barrister making the report must submit his/her notes for examination and amendment by the judge making the decision. However, private, commercially sponsored reports continue to be issued and enjoy considerable popularity among law practitioners and students. N.B. It is a cardinal principle of English law that “he who asserts must prove”. Hence, in a criminal case, the Prosecution must prove its case against the Defendant (burden of proof) beyond reasonable doubt (standard of proof). Conversely, in a civil matter, a Claimant must prove his/her case against a Defendant on the balance of probabilities.

C. NATURE OF EQUITY
Definition
The type of law administered in the Court of Chancery is known as "equity". This word is derived from the classical Latin "aequitas", which meant fairness or reasonableness. In its practical application, "aequitas" signified the following of the spirit of the law, as opposed to the strict letter, and connoted reasonable modification of the letter of the ordinary law, which was based upon the moral rules of a former age. Common law was administered in the old royal courts and, because its rules were rigid, its strict application led, in many cases, to injustice and oppression. Thus, legal justice could be obtained in the royal courts, but where the rigidity of the common law worked unfairly or provided no remedy, an appeal was made to that higher justice called "equity", which resided in the King, as the "fountain of all justice". Thus, the King's residuary power permitted him to temper the inflexibility of the ordinary law and to do justice according to reason, good faith, good conscience and the current ideas of morality, when he was petitioned to do so. We may define Equity as Those principles of natural justice administered at first by the King-in-Council, and later by the Chancellor, first as a member of that Council and afterwards as an independent judge, to correct and supplement the common law.

© ABE

Common Law, Equity and Statute Law

25

It is, therefore, purely case law, and its principles are essentially judicial, but they were developed to mitigate the defects of other judiciary law.

History
As you are probably aware, a writ (now called a Claim Form) is the first step in an action arising out of a civil wrong. Very early in the Norman period, the King issued his will in matters of justice by executive orders in writing, the authenticity of which was certified by the Royal Seal. The Chancellor kept the Seal and, with his clerks, wrote out the writs and sealed them. He was, at first, quite a lowly person, being the chief domestic chaplain of the King, and doing the secretarial work. Being an ecclesiastic, he was the "keeper of the King's conscience", and represented the "moral attitude" of the Crown. During the 12th and first part of the 13th centuries, the number of writs grew very rapidly, and they were really an authoritative statement of the common law. In effect, these writs constituted a collection of legal remedies to be obtained from the King by persons applying for them. The Chancellor began to frame writs on his own authority. As the issue of a new writ was equivalent to the creation of a new legal right, the judges naturally resented this. The power of the Chancellor was checked first by the judges quashing his new writs, and secondly by the Provisions of Oxford 1258, which enacted: "The Chancellor will seal no writ, excepting writs of course, without the command of the King-in-Council." The net result was that the common law became more rigid and the rules operated unjustly. An attempt was made to remedy this by the Statute of Westminster 1285, by which the Clerks in Chancery, the secretariat of the royal courts, were authorised and encouraged to extend the range of the law to meet the needs of altered or fresh circumstances, by framing special writs modelled on existing cases. However, the common law courts, which had power to decide whether a writ was good or not, failed to take full advantage of the provisions for extending the law and many further cases of hardship and injustice occurred. As a consequence, suitors began to address petitions to the King, which were referred to the Chancellor. Finally, petitions were addressed direct to the Chancellor, who took upon himself to remedy the wrong. This judicial activity of the Chancellor commenced at the end of Edward III's reign. In time, the Chancellor sat alone, and disobedience to his decrees and orders was punishable as special contempt of the King's authority. As a result, the Chancellor came to be recognised as a judge, apart from the common law judges, administering justice on equitable principles.

Basis
The basis of the Equity administered by the ecclesiastical Chancellors was conscience, and this led, in some cases, to principles and conclusions opposed to the rules of common law. Abstract justice could be done in individual cases, even though it meant dispensing with the law of the state. The seeds of friction between the Chancellor and the common law judges were sown and differences, in time, became acute.

Superiority of Equity
What was the weapon the Chancellor used when petitioned? If he considered the petitioner had a "prima facie" (straightforward) case, he issued a writ of subpoena, which was an order addressed to the defendant, requiring him to appear before the Chancellor and his Council on such a day, in his proper person, under a penalty (subpoena) of so much, to answer on oath what should be objected to him. When he appeared, the defendant was subjected to a searching examination on oath. The Chancellor dispensed with juries, and tried the whole case himself. The procedure was inquisitorial. If he decided in favour of the petitioner, he did not pronounce "guilty" but issued a decree ordering the defendant to perform certain

© ABE

26

Common Law, Equity and Statute Law

acts, or to refrain from certain acts, such as insisting on his legal rights, under penalty of imprisonment. This procedure was much more flexible than the limited remedies afforded in the common law courts, with their highly technical system of writs, pleadings, juries to decide questions of fact, and the inflexible rule that a party to an action could not give evidence. Thus, the Court of Equity was markedly superior in its procedure and remedies, and it is not surprising that it attracted much business with which it could not keep pace, despite the later appointment of a Master of the Rolls, and other staff, and the erection of new courts of Equity. There were frequent complaints about the slow procedures and delays.

D. APPLICATION OF PRINCIPLES OF EQUITY
Uses (Trusts)
One of the earliest subjects falling within the Chancellor's jurisdiction was uses, or trusts of land. Under the feudal system, the King was the supreme and ultimate land-owner – everyone held their land, in the last resort, from him. In return, the land-holder rendered to the King certain services, e.g. the provision of a number of men at arms, agricultural produce, and so on. As society became more developed in the Middle Ages, money became more important, and there was a growing tendency to change the service into money. By far the greater proportion of the feudal service became money dues although, strictly speaking, they were neither taxes nor rates. Although there are records of uses having been created even before the Norman Conquest, the only uses found for some time after the Conquest appear to have been merely temporary uses, e.g. while a man was on a crusade. In about 1225, the Franciscan friars came to England. The rules of their order prevented their owning property, so land was conveyed, for example, to some town for the use of the friars. After this, uses of a permanent nature became more common, and by the middle of the 14th century they were frequent. The common law refused to recognise the validity of a device of land (a device being a gift of land by will), and it was held that the number of writs in the case of land law could not be increased. The land-owner therefore turned his attention to the use. He conveyed his estate to a trusted friend who was to hold it, not for his own benefit, but to carry out the instructions given by the transferor. In legal terms, the land was formally conveyed to certain trustees, who were called feoffees, to the use of the grantor's beneficiary, who was usually called the cestui que use, (the person for whom the use is). The feoffees to uses became the legal owners and were the only tenants recognised by the common law courts. The beneficiary could only rely upon their good faith, and since uses were not incorporated into the common law, he could not make a dishonest feoffee carry out his trust. Redress, therefore, had to be sought elsewhere, in order to secure the enforcement of these obligations. Petitions for this form of redress were finally, in the 14th century, directed to the Chancellor who, by the early 15th century, decided to protect the interests of the cestui que use. Their beneficial interests were, through Equity, enforced against the original feoffees to uses, and further, by extension, against the feoffee's heirs and even against a purchaser with notice of the trust, although the purchaser of the legal estate with no such knowledge was not affected. Thus, equitable interests affecting the legal ownership of land were admitted as binding all who came to the land, except as bona fide purchasers of the legal estate without notice of the equitable interests.

© ABE

Common Law, Equity and Statute Law

27

The Statute of Uses
A division of ownership into legal and equitable interests came about because the Chancellor had created interests in Equity unknown to the common law. However, in 1535, Henry VIII, finding that the increased frequency of uses deprived him of the revenue arising from the incidents of feudal tenure, forced through Parliament the Statute of Uses, to avoid such losses. This statute attempted to abolish the distinction between legal and equitable ownership. The cestui que use was held to be vested with the legal interest in the freehold, the "use" merely operating to transfer to the beneficiaries the legal estate. Hence, the beneficial owner was now seised (feudally possessed) of the land as a legal estate and was subject to its common law burdens and incidents. Two types of equitable interest remained unaffected:   uses of personalty including leaseholds "active" uses, where the trustee needed the legal estate to perform active duties, like collecting rents to pay a cestui que use.

These two exceptions were the basis of the modern Trust. However, in the concept of equitable ownership, there followed the new development of a use upon a use. This was not frequent until after 1535. By this procedure, A gave lands to the use of B to the use of C, i.e. B was to hold them for the "use" of C. In Jane Tyrell's Case (1557), the common law courts decided that there could be "no use upon a use", so that B got the legal estate by virtue of the common law and C took no interest. After the abolition of the incidents of feudal tenure in 1660, however, the Crown had no further interest in the prohibition of equitable ownership. The courts of Equity took the view that it would be unjust to allow B to retain property not belonging to him, and they began to enforce the second use. B, though seised of the legal estate, was deemed to hold to it upon trust for C. There was thus resurrected the doctrine of equitable ownership, but with a change of name. The new relationship was a trust, the legal owner a trustee and the old terminology was gradually dropped. In other words, the Statute of Uses became a dead letter and the jurisdiction of Chancery over equitable ownership was completely acquired under the name of trusts, and equitable rights in land again developed and flourished.

Mortgages
A very important body of doctrine was built up by the Chancellor in connection with mortgages. A mortgage of land is only security for the payment of money lent upon it. Such mortgages had been common since the early Middle Ages. It is sufficient here to note that the borrower conveyed his land to the lender (the mortgagor to the mortgagee) and a day was named in the mortgage deed for the repayment of the mortgage money, generally six months from the date of the conveyance. In the deed, there was a proviso for redemption whereby the mortgagee – who had the legal ownership – agreed to reconvey the land if the money were repaid on the stipulated date. Often, mortgagors were unable to repay on the date named. The result was that the right of redemption was lost for ever. The common law would not and could not help the mortgagor. Equity interposed and insisted on the real intention of the parties being adhered to. In the Chancellor's view, the land was only conveyed as a mere security for the loan. Though the legal right of redemption expired with the date of repayment, an equitable right of redemption arose immediately after such expiry. The mortgagor had a new kind of equitable ownership – he had his equity of redemption – and he resembled a beneficiary under a trust. This equitable right he could sell, devise by will, settle, or mortgage again, and he could only lose it after the Court of Chancery had given him ample time to repay. Thus,

© ABE

28

Common Law, Equity and Statute Law

when application was made to the Court of Chancery to "foreclose", as it is called, the mortgagor was given a last chance by an order "nisi", i.e. unless he paid within a stated time, he lost for ever his right to redeem.

Specific Performance
Another function of Chancery arose in connection with the remedy called specific performance. By specific performance we mean compelling a person to carry out a contract he/she has actually entered into. If A agreed to sell a house to B for £45,000 and then had another offer of £45,500, A might sell the house to the higher bidder, breaking the bargain with B. The common law remedy for every such wrong was damages. However, suppose B really needs that particular house. In that case, he would prefer a bill in equity and the Court of Equity could order A to sell the house to B on pain of imprisonment if A refused.

Injunctions
An injunction is an order, granted by the court, preventing an unlawful act. For example, A hears on good grounds that B is about to erect a building near A's own, interfering with A's right to light for his windows. The common law could not prevent B from doing this, but could award damages after the damage was done, i.e. when the light was blocked up. Equity could prevent B from building in such a way, and could compel him/her to pull down the objectionable wall, or house.

Other Reliefs not Available at Common Law
The Chancellor gave relief against fraud, mistake, accident (especially the accidental loss of a document), breach of confidence and general inequitable dealing where the inflexibility of the common law worked harshly.

E. EQUITY AND COMMON LAW
Relationship of Equity and Common Law
The origin of the equitable system of granting injunctions can be traced to Henry VI's reign. By the time of Elizabeth I, the now popular Court of Chancery was at variance with the common law courts, and in the early 17th century a quarrel broke out between Chief Justice Coke of the Court of Common Pleas and Lord Ellesmere (the Lord Chancellor), on this subject of injunctions. In 1616, in the Earl of Oxford case, James I supported the Chancellor, and laid down by statute that, where the rules of common law and equity conflicted, the latter were to prevail. From that time, the rights of the Chancery were rarely disputed and it was a court of equal, and in some subjects, superior authority to the common law courts. Thus, a more important stage in equity's development was begun. Previously, equity had been a set of principles, based on conscience, or Roman law, or canon law which assisted, supplemented or set aside the law in order to do justice in individual cases. Henceforth it tended to become a more settled system of rules, which supplemented the law in certain defined cases. Thus, the various rules of equity hardened into a definite body of legal doctrine, and by the 18th century the modern English system of equity was finally established. At length, by the passing of the Judicature Acts 1873 and 1875, the Court of Chancery, together with the common law courts, was abolished and the two rival systems of common

© ABE

Common Law, Equity and Statute Law

29

law and equity as administered on different principles came to an end. The Supreme Court of Judicature was established for the common law and Chancery courts. Every judge has both a common law and an equity "mind". The principle established by the statute of 1616 was retained and where there was any conflict between the rules of equity and those of the common law, the rules of equity should prevail. Notice that though there is still a Chancery Division, the common law courts must administer the law in accordance with the principles of Equity, all courts administering common law and Equity concurrently, and equity prevailing in case of a conflict. However, always remember that the Judicature Acts fused only the administration of common law and equity. The two branches of law themselves were not fused; they remain and still remain, distinct and separate. Maitland, the great historian of equity, wrote: "The two streams (of common law and equity) have met, and now run in the same channel, but their waters do not mix."

Contribution of Equity to English Law
Equity has made the following chief additions to common law: (a) (b) (c) (d) trusts and settlements in respect of property the doctrine of "undue influence", as in Royal Bank of Scotland v. Etridge (2001), in respect of contracts property for the separate use of married women which the common law did not recognise, but which is now statutory superior remedies, e.g. specific performance or an injunction, instead of simply "money compensation".

Eventually, equity became almost, but not quite, as rigid as the common law it had replaced and its place, as the vehicle through which newer and better rules were introduced into English law, was taken by legislation. At one period it appeared that, just as the rigidity of common law had in the first place necessitated the development of equity, so equity itself had reached a state of inflexibility and that legislation would henceforth be the only method of bringing about changes in the law. However, this was never completely true and recent years have seen the emergence of what is sometimes called "new equity", a development that is especially associated with the name of Lord Denning. For example, in the famous case Central London Property Trust Ltd v. High Trees House Ltd (1947), he applied equitable principles to modify considerably the effect of the common law doctrine of "consideration" in the law of contract, where the doctrine appeared to be resulting in injustice.

F.

CLASSIFICATION OF EQUITY

We can divide equity jurisdiction into three classes.

The Exclusive Jurisdiction
This jurisdiction covers matters of which old common law took no notice. The great example is the enforcement of trusts, with which we have already dealt.

The Concurrent Jurisdiction
This covered cases which were known to the common law but which the Court of Chancery was inclined, in some instances, to recognise.

© ABE

30

Common Law, Equity and Statute Law

Matters of contract would come within this category where the only defence to the claim was one recognised in equity. For instance, if A sued X in the Court of Common Pleas upon a contract, and X's defence was one of misrepresentation, or undue influence, defences which the Court of Chancery had developed, X could apply to the Chancellor for an injunction (called the common injunction) prohibiting A from continuing his action at common law, or if A had already obtained judgment in the action, from enforcing the judgment by levying execution upon it. This would force A into the Court of Chancery, if he wished to proceed with his claim against X, when X would be able to raise his equitable defence to it. It was the concurrent jurisdiction, and the issue of the common injunction by the Court of Chancery, which gave rise to the quarrel during the reign of James I between Lord Ellesmere, the Chancellor, and Chief Justice Coke of the Court of Common Pleas (see earlier). Since the Judicature Acts 1873-75, the common injunction has disappeared. Now that all courts administer common law and equity together, equity prevailing where there is any conflict between the two systems, a defendant can always raise his/her equitable defence to a common law claim in any court. Hence, the need for the common injunction has gone. It is not often that a conflict arises between common law and equity because, for the most part, the two systems deal with different matters, but in the concurrent jurisdiction of equity, conflicts may occur. You can find an example of such a conflict after the passing of the Judicature Acts in the case of Walsh v. Lonsdale (1882). There was a lease of a mill for seven years. At common law the lease should have been in seal; in equity, all that was required was a written lease, though not under seal. The lease in question was in writing, not under seal. Therefore, it was held valid as equity was to prevail in cases of conflict.

The Auxiliary Jurisdiction
Here, equity helped out common law with new remedies and machinery which was lacking. Instances of this jurisdiction were as follows:    injunctions and order of specific performance of contracts the subpoena of witnesses rectification and cancellation of documents.

In connection with the administration of the separate systems of common law and equity, prior to the passing of the Judicature Acts 1873-75, great inconvenience was caused to litigants by the fact that common law was administered in one set of courts, while the system of equity was administered in a totally different tribunal, namely, the old Court of Chancery. If the action was before the Court of Common Pleas, for instance, in order to obtain a subpoena to summon a witness it was necessary to apply to the Court of Chancery. If one party wanted what was known as "discovery of documents", now known as Disclosure, from his/her opponent, i.e. an order that he/she set out on oath a list of the documents in his/her possession relevant to the case, he/she had to make application for an order of discovery of documents to the Chancellor. Now that common law and equity are administered together in all courts, the litigants do not experience the inconvenience which formerly existed when the two systems were administered in different courts.

© ABE

Common Law, Equity and Statute Law

31

G. LEGAL AND EQUITABLE RIGHTS
Equitable rights or remedies such as injunction and specific performance are purely discretionary; in contrast to remedies at common law or under statute, they are never granted as of right. To that extent, it is not strictly accurate to refer to equitable "rights". They are entirely at the discretion of the court, although in the course of time that discretion has come to be exercised judicially according to precedent. In the High Trees House Case, such discretion was exercised where the rigid observance of the common law doctrine of "consideration" would have resulted in great injustice. In other cases e.g. Walsh v. Lonsdale, equitable rights have been granted where equity and common law were in conflict. Note that equitable rights or remedies are not self-sufficient and depend on the prior existence of common law. They developed essentially as devices for rectifying the anomalies and injustices caused by the strict application of legal rights. Without common law, equitable principles would be unrelated and largely irrelevant.

H. NATURE OF STATUTE LAW
History
Statute law, often called legislation, as we have already seen, is written law enacted by the approved legislative process of the state. A statute is also called an Act of Parliament. Under the Normans and early Plantagenets, statutes were promulgated by the King, usually at meetings of the Great Council. Its assent to these was only a matter of form, since it was the King who really made the laws. From the reign of Edward I, representative Parliaments began to develop, for the Model Parliament of 1295 contained not only the royal tenants-in-chief but also representatives of the shires and boroughs, summoned collectively through the sheriffs. In the early Parliaments, the process of legislation involved the members presenting petitions to the King, which were either accepted and promulgated as law or reserved by the King for his further consideration. Under Edward III, Parliament began to meet in two separate Houses, the Commons and the Lords, and the idea began to grow that statute law should be enacted by the King-inParliament. However, Kings still insisted on their right to promulgate legislation without Parliament and it was not until the Bill of Rights 1689 that the principle of the sole legislative authority of the King-in-Parliament was accepted. Officially, the monarch still has the power to refuse assent to Bills presented by Parliament, but this veto was last exercised by Queen Anne in 1707 in regard to a Bill for "settling militia in Scotland". The royal veto is unlikely to be exercised these days, except perhaps in some extreme crisis.

Records of Statutes
The early statutes were entered on Statute Rolls, which provide the authority for them, although, in some cases, the original document also survives. The earliest of these Rolls begins with the Statute of Gloucester 1278, which limited the jurisdiction of the local courts in civil suits. Between 1278 and 1445 there are six of these Rolls and they are known as the Great Rolls of the Statutes. With the ending of the Statute Rolls we have "enrolments of Acts of Parliament", certified and delivered into the keeping of the Lord Chancellor. There is a continuous series of these running from 1483 until the present day.

© ABE

32

Common Law, Equity and Statute Law

From the time of Henry VII, it became the practice for printed copies of statutes to be distributed by the King's Printer and from the 18th century it has been a legal requirement that copies should be distributed throughout the country. During the 13th and 14th centuries, a statute was cited either by the name of the place where the Council or Parliament sat, e.g. the Statute of Gloucester; by the first words of the statute itself, e.g. Quia Emptores 1290; or according to the object of the statute, e.g. the Statute of Labourers 1349. From the 14th century onwards, when Parliament normally sat at Westminster, statutes were cited by the date of the year of the reign of the sovereign in which the statute was passed, e.g. 24 George 2 stands for the 24th year of the reign of George II. Most modern Acts of Parliament contain a short title and are usually quoted by their title and the year in which they were passed, e.g. the Criminal Procedure Act 1961.

The Sovereignty of Parliament
 Historical importance In view of the disuse of the royal veto, Parliament can be said to be the sovereign power in Great Britain and, since by the Parliament Acts the Commons can, in most cases, overrule the Lords, the House of Commons in practice exercises this sovereign power. The sovereignty of Parliament means that Parliament possesses unlimited power to legislate upon any topic and to change any existing law or statute. Moreover, the validity of the statute so made can never be discussed in a court of law. Thus, the sovereignty of Parliament in English law is unquestionable, the unlimited legislative power of Parliament being the rule of English constitutional law. (However, you should note the effect of the European Communities Act 1972, as well as the incompatibility doctrine enunciated in the Human Rights Act 1998, on the doctrine of the sovereignty of Parliament.) If there are any practical limitations, they are dictated by the procedure Parliament has developed, in accordance with which it considers Bills presented to it, and decides by a process of successive "readings" and "inquiries in committee" in both Houses on the form which should be presented for the royal assent. When the measure has received this assent, it becomes a source of law. By Parliament we mean "the Queen-in-Parliament", i.e. the legislature. A Bill passing both Houses and getting the royal assent thus becomes an Act (or statute). A Bill may be introduced in either the House of Commons or the House of Lords. In either case it will pass through the formal first reading to the House (after which it is printed); second reading which involves a debate on the broad principles and purposes of the Bill; committee stage consisting of a detailed debate and possible amendments by a special committee of members; report stage when the committee reports its findings to the House; and third reading, when only verbal alterations may be proposed. It will then go to the other House for the same process, after which it goes to the Queen for the Royal Assent and becomes an Act of Parliament. The effective powers of the House of Lords are now very limited as regards legislation, see the Hunting Act 2004. Once a Bill has passed through the House of Commons, and the House of Lords has made amendments, those amendments must be returned to the House of Commons for its approval. The Parliament Act 1911 provides that any Bill which has been designated a Money Bill (proposing a charge on the public revenue) must be introduced in the House of Commons and, having been passed by this House, must be passed by the House of Lords without amendment within one month of the time it is received by the Lords. Should the House of Lords fail to

© ABE

Common Law, Equity and Statute Law

33

pass the Bill, it will nevertheless receive the royal assent and so become law without their consent. The Parliament Act 1949 further diminished the direct power of the House of Lords in relation to public Bills concerned with matters of public importance. Once a public Bill has passed through the House of Commons in two successive sessions (i.e. years of sitting) and has been rejected by the House of Lords in each session, it may nevertheless be presented for the royal assent without the agreement of the House of Lords.  Significance of the European Communities Act 1972 This Act, together with the Treaty of Accession, came into force on 1 January 1973, and makes the necessary alterations to existing English law to enable the UK to comply with the obligations entailed in membership of the European Union. The Act gives the force of law in the UK to existing and future EU law which, under the Community Treaties, is directly enforceable in the member states. The effect of this Act and the later European Communities (Amendment) Act 1986 has been to limit considerably the scope of the doctrine of the sovereignty of Parliament. In 1962, in its judgment in the historic case of Van Gend en Loos, the European Court of Justice (now termed the Court of Justice of the European Union) declared that: "The Community constitutes a new legal order ... for the benefit of which the (member) states have limited their sovereign rights." The total supremacy of Community law was upheld by the Court in another notable case – Costa v. ENEL (1964). Section 2(1), European Communities Act 1972, gives direct legal effect in the United Kingdom to those parts of the EU legal order intended to have direct effect, and the primacy of EU law as a whole is achieved by Section 2(4) of the Act. As a result of UK membership of the EU, the sovereignty of Parliament as a legislative body has been subordinated to EU law, and to the legislative authority of both the EU Commission and the Council of Ministers. We have already emphasised that EU legislation is now a written source of English law. The Treaty of Rome and its implementing statutes now override English law. An example of this aspect is to be found in Article 85 (now Article 81) of the Treaty of Rome, which states that: "the following shall be deemed to be incompatible with the Common Market and shall be prohibited; all agreements between enterprises and any concerted practices which are likely to affect trade between member states and which prevent, restrict or distort competition within the Common Market." The Article is wide enough to affect many normal commercial agreements which fix prices in secure markets. As a result, many such arrangements have been prohibited under the EU law, since they prevent fair competition within the Common Market. A major effect of UK membership of the European Union has been an increasing move away from case law towards legislation. There has been much emphasis on the interpretation of EU directives and regulations. Interpretation tends to follow the broader Continental techniques, such as the Teleological approach, rather than the narrower English approach (for which see below).  Changes to the House of Lords Significant changes were made to the composition of the House of Lords in 1999 by the removal of the voting rights of the majority of hereditary peers.

© ABE

34

Common Law, Equity and Statute Law

I.

INTERPRETATION OF STATUTES

When a statute is passed in due form, supposedly perfected, it has to be interpreted and applied. Theoretically, this should be easy, for all that has to be done is to apply "the letter of the law". Many statutory measures, however, if so interpreted, would produce interpretations wholly inconsistent with the purpose of the statute leading to injustice, ambiguities, and unreasonableness never intended by Parliament. Judges, therefore, have a twofold task. They must decide upon the exact meaning of what the legislature has said, and they must consider what the legislature intended to say, i.e. the true intention of the law. The function of interpreting statutes confers upon the judges a considerable amount of power to modify the effect of legislation. We saw earlier that judicial precedents may be extended or restrictively "distinguished", according to whether their effect is liked or disliked. In a similar way, judges, at least in past times, have construed statutes either liberally or restrictively, according to the view they took of the statutes. Thus, it was formerly the rule that remedial statutes (those passed to remedy defects in the common law) should be interpreted extensively or liberally, while penal statutes (those imposing punishments) and statutes imposing taxation should be interpreted as restrictively or narrowly as possible.

Rules of Construction
The judiciary interprets statutes by following certain rules of construction. (a) The literal rule Application of the literal rule involves interpreting a statute literally, according to its ordinary plain meaning. Fisher v. Bell (1960) could be considered. The literal rule might be said to be the default position. But the judges will commonly use a more purposive approach (the golden or mischief rules), especially where the legislation seeks to implement a social policy such as the outlawing of sex discrimination. Pickstone v. Freeman (1988). In Fisher v. Bell (1960), a shopkeeper displayed in his window a flick knife with a price ticket and was prosecuted for offering for sale an offensive weapon contrary to the Restriction of Offensive Weapons Act 1959. The Divisional Court said the phrase "offer for sale" was to be taken literally, in accordance with its meaning in contract law and that the defendant's display of the weapon was no more than an invitation to treat. In Re Rowland (1962), a man going to the South Pacific made a will leaving everything to his wife, but "if her death precedes or coincides with mine" then to his brother. Shortly afterwards, both he and his wife were lost at sea and the question for the court was whether their deaths should be treated as coinciding. Lord Denning, dissenting, in the Court of Appeal said that "coincide" should be given the meaning that the dead man must have intended: "on the same occasion", or something like that. The situation that had arisen was clearly the one the testator had in mind when making that provision in his will, because no two deaths are ever exactly simultaneous. This rule is applied in the least difficult cases, unless the use of the literal meaning of a statutory provision would lead to an absurdity. (b) The golden rule This rule is really to be read in conjunction with the literal rule, and its effect is best explained by Lord Wensleydale in Grey v. Pearson (1857): "The grammatical and ordinary sense of the words is to be adhered to unless that would lead to an absurdity or repugnancy or inconsistency with the rest of the instrument, in which case the grammatical or ordinary sense of the words

© ABE

Common Law, Equity and Statute Law

35

may be modified so as to avoid such absurdity, repugnancy or inconsistency and no further." The golden rule is applied if the application of the literal rule would result in an absurd interpretation. An absurdity may arise from a literal meaning of the words, as evidenced by Adler v. George (1964). Alternatively, it may arise from the policy implications of a literal interpretation: Re Sigsworth (1935). In cases where the literal interpretation of a statute leads to an absurdity, modifications are carefully made in order to determine to a less obvious meaning of the words contained in an Act of Parliament. In Adler v. George (1964), a protester was convicted by magistrates of obstructing a sentry "in the vicinity of a prohibited place", contrary to Section 3 of the Official Secrets Act 1920. He appealed on the grounds that, since he was actually inside the prohibited place at the time, he could not be in its vicinity. The Divisional Court dismissed his appeal. It would be extraordinary, said Lord Parker CJ, if the statute created a serious offence when obstruction occurred just outside a RAF station, but no offence at all when it occurred inside. The words "in the vicinity of" should be construed as meaning "in or in the vicinity of". The Offences Against the Person Act 1861 made it an offence to marry another partner while already married and the defendant was prosecuted under this Act. He claimed that since his second "marriage" was not legally valid, he had not committed the offence defined. The Court said the phrase "to marry" was capable of more than one interpretation: it could mean "to enter lawful matrimony with" or "to go through a form of marriage with". Parliament could not have intended to create an offence that it was logically impossible to commit, so the second interpretation was the one to be preferred: R v. Allen (1872). (c) The ejusdem generis rule This literally means "of the same kind". Under this rule, if there is a series of particular words followed by a word of generality, then the category into which the particular words fall will not be extended by the words of generality. For example, if a statute covered "a house, bungalow, chalet or any other place" it would not, for example, affect open spaces, because the particular words all relate to covered buildings. A further example is the case of Powell v. Kempton Park Racecourse Co. (1899). The Betting Act 1853 prohibits the keeping of a "house, office, room or any other place for betting with persons resorting thereon". The House of Lords held that the words "any other place" meant a place similar to a house, office or room and would not, therefore, apply to Tattersall's ring on the racecourse. (d) The mischief rule The mischief rule aims to define the problem that a particular Act of Parliament was meant to remedy. In order to determine what was the problem before the Act received Royal Assent, the courts can look at, for example, reports from the Law Commission and also Hansard (the journal of debates in Parliament). Following this process, a judge can choose the interpretation which best deals with the problem before him. The rule originated in Heydon's Case (1584) and operates as a limited exception to the general principle that judges must ascertain the intention of Parliament solely from the words of the statute. It was held in Heydon's Case that a judge should consider four things:   the common law before the passing of the Act in question the mischief and defect for which the common law did not provide

© ABE

36

Common Law, Equity and Statute Law

 

the remedy resolved by Parliament the true reason for the remedy.

You can see an early application of the rule in Gorris v. Scott (1874), where legislation provided that any ship transporting sheep or cattle should provide pens on board for the animals. The defendant shipowner failed to provide pens and, during a voyage from Hamburg to Newcastle, some of the claimant's sheep, which were being shipped, were swept overboard and drowned. In an action for breach of duty imposed by legislation, the court held that the purpose behind the statute was to prevent the spread of disease and not to guard against the danger of animals being washed overboard. It followed that the claimant's claim must fail as it did not fall within the mischief which the legislation was intended to remedy. In National Real Estate v. Hassan (1939), the rule was applied in a case concerning a statute of 1938, which was designed to prevent the exploitation of tenants by landlords who bought the freehold merely with the intention of suing the tenants for breach of the repairing covenants and reaping large-scale damages. The court had to decide whether the Act was retrospective, i.e. prevented landlords suing, even if they bought the freehold before the Act was passed. The court decided that the intention was to deal with this mischief and thus, contrary to usual principles, allowed the Act to be retrospective. In Smith v Hughes (1960) a number of prostitutes (the defendants) were charged with soliciting "in a street or public place" contrary to Section 1(1) of the Street Offences Act 1959. One had been on a balcony above the street and others had been sitting behind open or closed windows at first-floor level. Upholding their convictions, Lord Parker CJ said this was the mischief the Act was intended to prevent – everybody knows this was an Act intended to enable people to walk along the streets without being molested or solicited by prostitutes – and if the defendants could be clearly seen from the street that was sufficient.

Aids to Construction
The judiciary can also use certain aids to construction when interpreting statutes. (a) Internal aids These are matters contained within the statute itself, which will help the judge to interpret its meaning and which can be referred to by him or her.  The preamble This consists of the introductory paragraphs, setting out in brief the purpose of the statute.  The interpretative section(s) One or more interpretation sections are often found within a statute. These have the purpose of explaining the meanings of words or phrases within the statute. For example, Section 276, Factories Act 1961, explains in great detail the meaning of the term "factory".  The section headings These may be referred to in order to see if they clear up any difficulties within the section. But note that, since any marginal notes are not inserted by Parliament, they cannot be referred to by the judiciary.

© ABE

Common Law, Equity and Statute Law

37

(b)

External aids These are matters lying outside the statute which can be referred to by the judiciary.  Interpretation Act 1978 By this Act, Parliament consolidated a series of standard expressions, the interpretation of which is to be applied generally in the interpretation of Acts of Parliament, unless specifically excluded. For example, words that have the masculine gender shall include females, and words in the singular shall include the plural and vice versa.  Dictionaries English dictionaries can be used to explain the ordinary meaning of terms used in statutes. Other external sources, such as textbooks and the Hansard Reports of the proceedings in the Houses of Parliament, may only be used in clearly defined circumstances. – see Pepper v. Hart (1993).

(c)

Presumptions of interpretation These are presumptions which can be relied on by the judiciary when interpreting a statute.  Unless clearly stated, an Act of Parliament does not alter common law. Thus, common law will not be altered unless this is clear For example, Sweet v. Parsley (1969), which dealt with the interpretation of the Dangerous Drugs Act 1965, made it clear that there was a presumption that, if a statute was silent as to the need or otherwise of mens rea (guilty mind) before an offence was committed, then mens rea was to be proved.    The Crown is outside the effect of the statute, unless clearly stipulated to the contrary. The Act applies to the whole of the United Kingdom. The Act is not retrospective.

Interpretation of EU Legislation
EU legislation in the form of directives and regulations and UK statutes implementing such legislation must now be interpreted by English courts in accordance with the principles of interpretation followed by the European Court of Justice. One of the major principles is that of proportionality. Legislative provisions of the Commission or Council must be proportionate to the intended effect and the court will not accept legislative measures if other, less restrictive, measures would achieve the same purpose. An important aid to interpretation is the preamble of the directive or regulation, since it has to state in detail the reasons which form the basis in fact and in law for its determination. The European Court of Justice also makes use of academic commentaries by eminent jurists to assist it in its interpretation of EU legislation.

© ABE

38

Common Law, Equity and Statute Law

J. CODIFICATION AND CONSOLIDATION
Codification of a Legal System
Many Continental countries have reduced their law to a single code of laws which have been re-enacted as a single statute. This has the advantage of making the whole of the law of the state into statute law but it has not the flexibility of the English system, which brought together all the law (whether statute or case law) on a particular subject into one comprehensive code. England has not attempted any general codification of the law. However, certain parts of the law have been codified by, for example, the Bills of Exchange Act 1882, the Sale of Goods Act 1979 and the Theft Act 1968. It is undesirable that the law should be codified until it is in a fully-developed state. Once a codification is effected, there is a tendency for the legislature to go to sleep and the law then ceases to be developed with the growing needs of the times. In France, for instance, the law of bills of exchange was codified prematurely, whereas in England the Bills of Exchange Act was not introduced until 1882, when the law had become fully mature. Even when a codification of the whole legal system has been effected, there is still the difficulty of interpreting the code.

Consolidation
This is the reduction of a number of statutes into one single statute which repeals the former statutes, the contents of which have been so consolidated – an example of this is the Rent Act 1977. Into this enactment were incorporated the provisions (with some amendments) of the previous 40 years, reforming Acts dealing with house tenants and their rents, etc. Cases which went to interpret sections of statutes that have been consolidated into a later enactment remain as precedents for the constructing of the consolidating statute, so far as those sections have been repeated in the consolidating statute.

K. APPRAISAL OF STATUTE LAW
Advantages
       Statute law can both make new law and abolish obsolete or bad law. As it originates from a legislating body, separate as such from the judicature and superior to it, law making in this way provides for an advantageous division of labour. The law is known before it is enforced. (This is not entirely true, for some statutes were "ex post facto", i.e. penalise past acts, or validate past breaches of the law.) It is not dependent on the accident of litigation, but can come into force at any time to repair a defect in the legal system, without waiting for a case to arise on it. Statute law is, theoretically, clear and easily accessible, ready for immediate use, and embodied in an authoritative formula. It is less bulky than case law or precedents. It can systematise, by intelligible codification, the complex rules of case law.

© ABE

Common Law, Equity and Statute Law

39

Disadvantages
 Very often, in an effort to formulate a comprehensive statute, the resulting enactment is diffuse and vague. This means that the judges, in their task of enforcing the law, are compelled to exercise great pains and ingenuity in interpreting the words of the statute. The advantages of certainty and definiteness may be outweighed by conservatism or archaism. In other words, a statute is apt to lag behind public opinion in the face of changing circumstances of the age and society. Moreover, many statutes are not always the result of practical difficulties met with, but are the embodiment of academic speculation, and party predilections. There is less wealth of detail in a statute but more formality. It may be logically incomplete. A statute may do injustice if it applies to a case in a way not foreseen by Parliament.

 

L. DELEGATED LEGISLATION
Definition
Delegated legislation refers to the exercise of a legislative power, granted ultimately by Parliament, by a subordinate body such as a local authority, a public corporation, the Supreme Court, or a university. Many modern statutes confer authority upon persons and bodies to issue regulations which are legally binding and which, if disobeyed, may involve those disregarding them in some penalty. A characteristic of such delegated legislation, however, is that it is only exercised by consent of Parliament, and the powers may be repealed or withdrawn at any time. Moreover, the exercise of delegated legislation is very strictly interpreted by the courts, which have power to declare regulations so made as "ultra vires" (beyond the powers granted) if they do not fall within the statute granting them.

Types
(a) Orders in Council Although the royal prerogative exercised by the Norman kings of promulgating laws in the Great Council has fallen into disuse, many modern statutes delegate to the Queenin-Council the power to issue Orders in Council, particularly in times of national emergency. See, for instance, measures to deal with the Foot and Mouth outbreak, or Swine/Bird „Flu measures. (b) Ministerial orders and departmental legislation These consist of the issue of orders and regulations by Ministers or by government departments under powers conferred on them by statute. This type of legislation takes a number of forms of which the following are examples:   Many statutes merely lay down their purpose in general terms. The details are filled in by orders issued by the Minister. In other cases, the Minister is given power to make orders in regard to the subject matter of the statute or to vary or even repeal the expressed provisions of the Act.

A typical example is the Road Traffic Act 1972 (as amended), which grants the appropriate Secretary of State power to make regulations generally as to the use of motor vehicles on roads, their construction and equipment, and the conditions under which they should be used. In fact, Sections 40 to 50 define the Secretary of State's

© ABE

40

Common Law, Equity and Statute Law

powers carefully and minutely, specifying the matters on which regulations can be made, provisions for exemption from the rules, testing regulations and so on. The principal regulations made under the Act are the Motor Vehicles (Construction and Use) Regulations 1978 cited as SI 1978/1017. These contain detailed regulations on brake linings, silencers and construction of petrol tanks, to name but a few elements. Most of these orders, however, must be laid before Parliament and must either be approved or annulled before coming into operation. Other orders, which are not laid before Parliament, must be published and notice given of where they may be obtained. A considerable number of these statutory powers are governed by the Statutory Instruments Act 1946. Statutory Instruments are the most important form of delegated legislation and include all Orders in Council and all those orders which have to be laid before Parliament. There is often a statutory duty to consult other bodies (e.g. trade unions and trade associations) and civil servants often seek the advice of outside experts regarding the implementation of Statutory Instruments. (c) Bylaws of local authorities and other public bodies Local authorities have general power to make bylaws, which affect the activities of people living within their geographical area. Public bodies have similar authority within their spheres of operation. N.B. Be aware of the amendments in this area brought about by the implementation of the Legislative and Regulatory Reform Act 2006.

Advantages
    Parliament does not have the time to give to minute details of legislation. Technical or scientific matters are often better dealt with by experts employed by the government departments than by Members of Parliament. Greater flexibility is provided for unseen contingencies and such legislation is of great value in an emergency, such as the outbreak of war. It affords an opportunity for experiment; if a Minister issues an Order and it is found unsatisfactory, it can be withdrawn at once.

Disadvantages
    The executive tends to get beyond the control of the legislature. It intensifies the tendency towards bureaucracy. There is a tendency towards undue interference with the liberty of the subject. Delegated legislation is attacked as weakening one of the principles of the Rule of Law. The law-making function is removed from Parliament, which is directly answerable to the electorate, and placed in the hands of unaccountable officials, except in the case of Local Authority Bylaws.

Control over Delegated Legislation
The volume and complexity of Statutory Instruments – there are about 2,000 Statutory Instruments made annually – raise complex issues of public awareness and democratic control. Control is exercised through two bodies – Parliament and the courts. At the beginning of each session, Parliament appoints a joint Select Committee to scrutinise all new Instruments and report on any requiring special attention, perhaps through having retrospective effect or raising wider issues, such as compulsory helmets for motor cyclists.

© ABE

Common Law, Equity and Statute Law

41

Most Parent Acts stipulate that Statutory Instruments made under them shall be laid before Parliament. They may further stipulate that Parliament may block the Instrument before it comes into operation by one of two procedures. Affirmative resolution procedure normally means that, unless there is a resolution of both Houses approving the Instrument within a certain time – frequently 28 days – of it being laid before Parliament, it will not come into force. The more common practice is to proceed by way of negative resolution procedure. Unless a motion to annul the Instrument is passed within 40 days, the Statutory Instrument will come into force. All delegated legislation must be published by HMSO under the Statutory Instruments Act 1946. Under the doctrine of parliamentary sovereignty, the validity of an Act of Parliament cannot be challenged in the courts. This restriction does not apply to delegated legislation. The grounds under which the courts can review subordinate legislation are ultra vires – i.e. that the scope of the Instrument exceeds the terms of reference laid down in the Parent Act, for which, see, for example: R v. Sec of State for Social Security, ex parte Joint Council for the Welfare of Immigrants (1996) – or that procedural requirements laid down in the Parent Act have not been complied with. In some cases the Parent Act requires that interested parties shall be consulted (see Agricultural Training Board v. Aylesbury Mushroom Growers (1972) before a Statutory Instrument may be issued. Bylaws can be challenged on the ground that they are excessively uncertain, repugnant to the general law or manifestly unreasonable.

© ABE

42

Common Law, Equity and Statute Law

© ABE

43

Chapter 3 The Law Relating to Associations 1: Corporations
Contents
A. The Concept of Corporations Definition Reasons for Corporate Existence

Page
44 44 44

B.

Corporations in Law Creation of a Corporation The Acts of a Corporation Cessation of a Corporation

44 44 45 46

C.

Companies Definition Classes of Company Advantages and Disadvantages of Creating a Company Distinction between Directors and Shareholders The Veil of Incorporation

46 46 46 47 48 49

D.

Companies in Law Formation Name of a Company Capital of a Company Meetings Directors Borrowing by a Company Common Seal Minority Protection Administration Winding-up (Liquidation)

54 54 59 60 63 64 65 66 66 68 70

E.

Unincorporated Associations Legal Position

74 74

© ABE

44

The Law Relating to Associations 1: Corporations

A. THE CONCEPT OF CORPORATIONS
Definition
A corporation may be defined as: an artificial unity or entity, normally consisting of a group of individuals, which the law treats as having a common will and, therefore, capable of holding rights and duties. In other words, a corporation is a purely artificial entity, treated by the law as a legal person. One of the root principles of the corporation is immortality, for it exists independently of its members, unless it is brought to an end in certain specific ways. This at once distinguishes it from the individual person, whose span of life is restricted and uncertain.

Reasons for Corporate Existence
The primary reason for the creation and recognition of corporations is commercial and economic. Under the protection of the corporation, large-scale enterprises flourish for centuries, having perpetual succession undisturbed by the death of individual members. The continuity of the corporation is not affected, whether old members die, existing members retire or new members are added. The main point to grasp is that the collective personality of the corporation is entirely distinct from that of its members operating the corporation. There are two distinct lives – the juristic life of the corporation and the life of the individual members. Obviously, although a corporation is a "person" in the eyes of the law, it cannot marry or be imprisoned (subject to the Corporate Manslaughter Act 2007) as an individual can – so it is frequently referred to as a "fictitious person". Because of the artificiality of its personality, the legal capacity of a corporation differs in some respects from that of ordinary individuals. The distinction between the personality of a corporation and the personality of the individuals making up the corporation was clearly laid down in the case of Salomon v. Salomon & Company Ltd (1897). Salomon incorporated his business as a limited company, which consisted of seven members of his family and himself. He held all the shares except seven, and also debentures to the value of £10,000, representing a loan which the company borrowed from him. The debentures entitled him to a first charge on the assets of the company. Thus, when the company went into liquidation, Salomon claimed that, as a debenture holder, he was a "secured" creditor. The other creditors claimed that Salomon and the company were the same person and that a man could not owe money to himself. However, The House of Lords held that a company, once incorporated, had a legal existence of its own, which was quite independent of the existence of any individual member.

B. CORPORATIONS IN LAW
Creation of a Corporation
Since corporate personality is acquired only by state recognition, it can be conferred only by an authoritative document, having the state's approval. The law, therefore, prescribes that a corporation can be created by one of the following:  Royal Charter whereby the Crown by its prerogative creates one particular corporation, e.g. a borough such as Oxford which was incorporated by Royal Charter, as was the BBC. Special statute whereby a special Act of Parliament creates corporations to fulfil public functions, e.g. the Post Office Corporation.

© ABE

The Law Relating to Associations 1: Corporations

45

General Act of Parliament which grants the privilege of incorporation to all groups complying with certain requirements, e.g. the Companies Acts which govern the formation of companies, and the Building Societies Act which governs building societies. Immemorial custom whereby a few corporations which never had charters are presumed to have acquired incorporation by immemorial custom in accordance with the fiction that the original charter was lost, e.g. certain very ancient boroughs.

The Acts of a Corporation
Exercise of powers Since a corporation has no material existence, but has the right to express its will, it has to act through its agents. As it is obviously impossible to allow all the members of a numerous body to act as its representative and to bind it by words or writing, some smaller group within the corporation is selected to administer its affairs. A typical example is that of the Board of Directors of a limited liability company who manage and act for the company as a whole. There is, however, an important difference in the scope of the actions of corporations created by charter or "lost charter" theory and those created by statute. Corporations formed by charters, also known as common law corporations, have all the powers of ordinary persons except those which are specifically withdrawn by the charter which created them. They may, for example, do many things which are not clearly inconsistent with the purposes for which they were created. On the other hand, statutory corporations may do only those things permitted expressly or impliedly in the statute incorporating them or in the documents of incorporation granted under the statute. Every act done in excess of these powers is ultra vires, and is legally void. An act which is ultra vires does not bind the corporation in any way. It is treated merely as the act of the agent or official which authorises or performs it. Since 1989 it has been necessary to distinguish companies which are formed or registered under the Companies Act 1985 (now the Companies Act 2006) from other forms of corporation, as the ultra vires rule has been virtually abolished in the case of the former category. Formal contracts A company is represented in any matter concerning the law of contract by its agent or agents. Their contracts must, of course, be intra vires, i.e. within the company's powers. The common law required that, when a corporation entered into a contract it used its common seal – the outward sign of authority of the whole body. However, the Companies Act 1948 made companies incorporated under the Companies Act exempt from the formality of contracting only by means of the common seal, and such corporations are now on the same footing as individuals as regards the form of their contracts. The same rule now applies to contracts made on behalf of any corporation (Corporate Bodies' Contracts Act 1960). Torts A corporate body is, in the law of tort, liable for the wrongful act of its servants, provided that the act was done within the scope of the servant's employment and within the powers of the corporation, and it was an act which would have been actionable if done by an individual. Owing to its nature, a corporate body is not able to sue or to be sued in respect of certain torts. For example, a corporation cannot sue for assault or battery. However, it has been held that a corporation may sue for defamation, i.e. libel and slander, if it can prove actual damage to its trade or business interest. This does not apply, however, to

© ABE

46

The Law Relating to Associations 1: Corporations

a municipal corporation, the income of which depends upon the rates it chooses to raise and not upon any trade. A municipal corporation, therefore, cannot sue for defamation, since its reputation is immaterial: Mayor of Manchester v. Williams (1891). In Cornford v. Carlton Bank (1900), it was held that a corporate body can be considered to have a malicious mind and, therefore, to be liable for the tort of malicious prosecution.

Cessation of a Corporation
A corporation continues to exist until it is dissolved in one of the following ways:     by voluntary surrender of its charter to the Sovereign by forfeiture of the charter through some default by an Act of Parliament by the method provided for dissolution in the incorporating statute, e.g. under the Insolvency Act 1986 companies are dissolved by means of a "winding-up".

Note that a corporation does not cease to exist merely because all its members are dead. In such a case it is merely in abeyance and it can be revived at any time.

C. COMPANIES
Definition
The major statute governing companies is the Companies Act 2006, which consolidated all previous statutes relevant to company law. One definition of a company is that it is: an association of members whose shares in the property of the company are transferable. Another way of defining it is: an association of individuals for purposes of profit, possessing a common capital contributed by the members composing it, such capital being commonly divided into shares of which each member possesses at least one, and which are transferable by the owner. A limited company is one in which the liability of its members is limited by the Memorandum of Association (see later) to the amount, if any, unpaid on the shares respectively held by them. Limited companies are often referred to in the press, on radio and TV and in everyday speech as "firms". You should remember, however, that in the language of the law, a firm is a partnership or a one-man business, not a limited company.

Classes of Company
As a result of the Companies Act 2006, the following five classes of company now exist:      public limited companies (plcs) private companies limited by shares private companies limited by guarantee without a share capital private companies limited by guarantee with a share capital unlimited companies.

© ABE

The Law Relating to Associations 1: Corporations

47

In practice, these companies fall into three basic legal categories. (a) Unlimited companies These are rare, and do not call for a great deal of discussion. Note that the word "limited" is not used as the last word in the name of the company, and that the liability of the members is unlimited. An unlimited company may be reregistered as a limited company. (b) Companies limited by guarantee A company limited by guarantee is a private company which has the liability of its members limited, by the Memorandum of Association, to such amount as the members may respectively thereby guarantee to contribute to the assets of the company in the event of its being wound up. Leading examples are trade associations and organisations formed to promote charity, education, science, etc. They do not normally have a share capital, as they are not formed for profit, but they acquire the benefits of incorporation by registration. (c) Companies limited by shares This category is, by far, the most common, and it represents the ordinary limited company of modern commerce and industry. In a company limited by shares, the shareholders can only be called on at any time to pay the company the amount unpaid on their shares. This liability is stated in the Memorandum and, once the shares are fully paid up, it ceases. Under the Act, companies limited by shares are classified as either public or private. A public limited company (plc) is defined by the Act as a limited company (whether by shares or by guarantee with a share capital) whose Memorandum states that it is a public company and which has registered as a public company. Such a company must have a minimum nominal allotted share capital of £50,000, and must identify itself on business stationery, etc. as a "Public Limited Company". A private company is then defined in the Act as any company that is not a public company. The minimum number of persons who may form a public company is two. For private companies there is now no restriction on the number of members or shareholders, or on their right to transfer shares. Note that companies limited by shares are often known generally as joint stock companies.

Advantages and Disadvantages of Creating a Company
The choice between using a limited company as a trading vehicle and remaining unincorporated as a sole trader or a partnership is one which has significant implications for businesses. Once incorporated, the members of a limited company enjoy limited liability. So long as they have paid for their shares in full they cannot be required to contribute to the debts of the company. However, you will find examples later where the "veil of incorporation" can be lifted to remove the benefits of limited liability. The company can sue and be sued in its own name. This is an advantage to shareholders in that they do not become immediately responsible for the debts of the company. However, in the event of a liquidation, ordinary shareholders rank last in the list of creditors of a company and rarely recover the full value of their investment. This reinforces the basis on which a company owns property, which is that its assets belong to the company itself, not to its members. Ownership and management are fundamentally separate in a company. Although in many small companies the reality is that the directors are also the company's shareholders, this does not change the fundamental point under English company law; and it is unusual for large public companies which have a Stock Exchange listing to have a similar situation.

© ABE

48

The Law Relating to Associations 1: Corporations

While directors of a public limited company will usually have a shareholding, it is rare for them to have a controlling interest. Once incorporated, a company is subject to all the rules of company law as laid down in the Companies Acts. These are often complex rules but companies and their directors are deemed to be aware of them and to understand that non-compliance may often lead to personal criminal liability. In comparison with other trading entities, such as sole traders or partnerships, the company enjoys greater flexibility in the raising of capital. For example, it may raise capital by means of a floating charge over the whole company or a specific part of the company's assets. Until the charge crystallises, the directors are free to deal with or sell those assets subject to the charge. Companies can also raise capital, subject to compliance with Stock Exchange regulations, from the various securities markets such as the Alternative Investment Market and the Unlisted Securities Market. In due course, this can lead to a full Stock Exchange listing where the company's shares are fully traded, with its activities being subject to full public scrutiny. While many business operators elect to trade as a limited company to reduce their personal risks, banks and other lending institutions will not necessarily provide finance to the company itself. In the absence of a good trading record and substantial fixed assets which can be charged in the event of default, banks will frequently only lend to companies where the directors provide their own personal guarantees. In order to incorporate a company, the subscribers must register a range of documents with the Registrar of Companies, together with a fee. There are usually fees payable to professional advisers who form the company, although it is increasingly the case for new companies to be purchased "off the shelf" from a company formation agent in order to minimise costs. During the life of the company there are annual compliance requirements, such as submission of annual accounts to the Registrar of Companies, completion of an annual return and notification of all other relevant statutory issues, such as appointment or resignation of directors and the company secretary, registration of mortgages and charges and any changes in the location of the registered office. Although the preparation and submission of annual accounts will involve a cost to the company, the audit requirements have been considerably relaxed for companies with annual turnovers under the thresholds of £90,000 and £350,000. In recent years, there has been an increasing number of companies formed as trading vehicles by individuals offering personal services, particularly in the information technology field. This has enabled the owners of the company, usually a single shareholder, to maximise their personal earnings by taking dividends from the company instead of salaries as employees. However, this practice has come under the scrutiny of the Inland Revenue and its advantages may be restricted where the personal service company contracts with a single client company.

Distinction between Directors and Shareholders
A company is an artificial legal person recognised in law as having an existence distinct from that of its members. Once incorporated the members (shareholders) of a limited company enjoy limited liability. As long as they have paid for their shares in full they cannot be required to contribute to the debts of the company. It is important to recognise that ownership and management of a company can be separate even though the individuals concerned are physically the same. Shareholders as owners of the equity or share capital of the company have the right to freely transfer their shares unless there is some restriction in the company's constitution. Shareholders, however, have no authority to "manage" the business of the company. Directors exercise day-to-day

© ABE

The Law Relating to Associations 1: Corporations

49

management of the company subject to the Companies Act, the Memorandum and Articles of the company (see later) and the directions given by the members of the company by special resolution at a general meeting. Shareholders have the following rights by virtue of owning shares in a company:     to receive dividends to receive a return of capital in a winding-up to participate in surplus assets on a winding-up to attend and vote at general meetings.

Shareholders have no right to see the minutes of directors' meetings, only of shareholder meetings. Their decisions at general meetings may in some instances require a 75% majority. Directors are appointed by the company in accordance with its Articles of Association. Their activities are controlled by the Articles, which deal with appointment, qualification, rotation and remuneration, and by the Companies Act 2006, Company Directors' Disqualification Act 1986 and Insolvency Act 1986. Directors have a fiduciary duty (duty of good faith) towards the members of the company. Every director must give notice to his/her company of any interest which he/she has in the shares and debentures of the company. Directors can be removed from the board of a company without their consent under the provisions of Table A (the model set of Articles of Association). Directors cannot vote or participate in a board meeting discussion to consider a matter in which they have an interest unless they have given prior notification of this interest. Generally directors may consider whatever matters they deem necessary to be discussed at a board meeting and they reach decisions by a simple majority vote. In many small companies, e.g. husband/wife/partner or family companies, the directors and shareholders are the same. In this case, it is important to realise that the above provisions of the Companies Act apply. This is particularly critical in the event of liquidations where directors of companies ensure that their own assets are kept separately from those of the company in which they are the only shareholders. Provided directors have not contravened the provisions of the Companies Act or Insolvency Act, then the creditors of a company are unable to seek redress from them personally in the event of the liquidation of their company.

The Veil of Incorporation
The fundamental principle of English company law was laid down in the case of Salomon v. Salomon & Co. (1897), namely that a company duly incorporated is a separate legal entity with its own rights and liabilities distinct from those of its shareholders. This is the case whether the company is a single member private company, a subsidiary company in a group of companies, or a public limited company with a Stock Exchange listing and many thousands of shareholders. In Salomon's case, Mr Salomon had carried on a shoe manufacturing business for over 30 years and decided to form the business into a limited company. The company was registered with him and six others holding the shares. He then sold his business to the new limited company for a figure of just under £40,000. This sum was paid for by the company issuing shares valued at £20,000 to Mr Salomon and his family. A secured debenture, which was a floating charge on the company's assets, was created in favour of Mr Salomon for £10,000. The balance was then paid in cash. However, some time later the new company found itself in financial difficulties and was put into liquidation. When the financial position of the company was assessed, its assets were worth only about £6,000 and the amount owing to trade creditors was about £7,000. When a judgment had to be made by the court, it had to decide whether the trade creditors or the

© ABE

50

The Law Relating to Associations 1: Corporations

debenture holder (Mr Salomon) was entitled to the £6,000 assets. The trade creditors argued that since an individual could not owe money to himself, so too a company could not owe money to its major shareholder. However, the court decided that the company was a separate legal entity, which could owe money even to a major shareholder. Therefore, the debenture which had been created in favour of Mr Salomon was valid and, as holder, he was entitled to such assets as remained within the limited company prior to liquidation. This principle, that upon incorporation a company becomes a separate legal entity, is fundamental to the organisation and management of English limited companies and, as stated above, the case of Salomon v. Salomon & Co. Ltd. (1897) established the legal principle of “separate corporate personality”, i.e. from the date stated on a company's certificate of incorporation, the company acquires its own rights and liabilities, separate from those of its members and it has perpetual succession, which means that members can come and go and the company remains – a company has a dual nature as both an association of its members and a person separate from its members. Moreover, following incorporation, an incorporated company has, inter alia, the following attributes.        It can hold property in its corporate name. It can sue and be sued in its corporate name. It can be a debtor and creditor in its own name, and even of its own members. Insolvency of the company need not bring about the bankruptcy of its members (limited liability is one of the main advantages of incorporation). It has perpetual succession, so that the membership may change, without affecting the legal personality of the company. It can make contracts in its corporate name. It can commit crimes, which do not involve mens rea (i.e. a guilty mind) such as road traffic offences (crimes involving mens rea can also be committed if the person who was instrumental in causing the crime to be committed was in a senior management position within the company, such that he can be considered to be the alter ego (other self) of the company). See now: Corporate Manslaughter Act 2007. It can commit torts, either through the instrumentality of its officers or its employees. The company can be vicariously liable for acts of employees committed in the course of employment.

The case of Salomon v. Salomon & Co. Ltd (1897) led to the coining of the phrase 'lifting the corporate veil'. See now: Beckett v. Hall (2007). The principle that a company is a person, separate from its members, can produce unsatisfactory results in certain circumstances. Company law, therefore, recognises a number of exceptions to the principle of “separate corporate personality”. In these exceptional circumstances, described collectively as “lifting the corporate veil”, the company is treated as the same person as its members and managers, i.e. they lose the shield of the veil of incorporation and become “jointly and severally” liable with the company for all debts and liabilities, as in the case of partners in a traditional partnership, as defined by the Partnership Act 1890. Although there is no one consistent principle running through these various exceptions, those provided by statute tend to penalise breaches of the companies legislation and those provided by the case law tend to involve situations where “special circumstances exist indicating that it (the corporate veil) is a mere façade concealing the true facts” per Lord Keith in Woolfson v. Strathclyde Regional Council (1978).

© ABE

The Law Relating to Associations 1: Corporations

51

Common law examples of lifting the corporate veil include the following.  Trading with the enemy The leading case on this is Daimler Co. Ltd v. Continental Tyre & Rubber Co. (Great Britain) Ltd (1916). If, as in this case, the persons in actual control of the company are enemy aliens, the company can also be so regarded (as an enemy) for the purposes of the law relating to trading with the enemy.  Cases involving groups of companies where the corporate veil may be lifted either on public policy grounds or in the interests of justice There has been a lot of controversy over the years in relation to groups of companies, where each company within the group, according to the doctrine of incorporation, is a separate legal entity, i.e. there is a “veil of incorporation” between a holding company and its subsidiary(ies). Similarly, there is a “veil of incorporation” between cosubsidiaries. However, there have been a number of cases where the courts have lifted the veil (or veils) of incorporation between a holding company and its various subsidiaries, with two main aims: (i) Firstly, to benefit the group of companies concerned by obtaining higher compensation payments in the event of compulsory purchase of premises. Case illustrations of this scenario include Smith, Stone & Knight Ltd v. Birmingham Corporation (1939) and DHN Food Distributors v. London Borough of Tower Hamlets (1976). Secondly, to benefit the creditors of the group of companies concerned (including the Inland Revenue) of an insolvent company by making other companies within the group liable for its debts. This doctrine has been implemented frequently to determine the extent of tax liability. A case illustration of the corporate veil being lifted for this reason is Firestone Tyre & Rubber Co. Ltd v. Lewellin (1957), where the veil was lifted because it is clearly contrary to public policy to evade tax, and lifting the veil shows that in a group, which is one financial entity and potentially has the resources to pay the creditor his outstanding debt, all members and directors of the company become jointly and severally liable for paying the tax bill, just like in a traditional partnership.  Where working relationships have broken down within a quasi-partnership company The leading case on lifting the veil on this ground is Ebrahimi v. Westbourne Galleries Ltd (1972). A breakdown in the management of a company or the complete exclusion of a member director from participation in management, have been redressed (remedied) by winding-up the company concerned on the just and equitable ground in accordance with Section 122(1)(g) of the Insolvency Act 1986. The courts regard the company, in such cases, in fact, if not in form, as a partnership. This scenario normally arises in companies with few members which, because of this and their management structure, are termed quasi-partnerships.  Where a company is a sham and is seeking to evade the enforcement of existing rights The House of Lords in Woolfson v. Strathclyde (1978) stated that it is appropriate for the courts to lift the veil of incorporation only where special circumstances exist, indicating that it is a “mere façade” concealing the true facts. The "façade" or "sham" concept seems to apply where the company concerned has been formed primarily to evade existing liabilities or defeat the law. Here, the courts have been prepared to investigate sharp practice by individuals who are trying to hide behind a company's "façade". The leading case on lifting the veil under this ground is Gilford Motor Co v. Horne (1933) – seeking to evade the operation of a restrictive covenant in his contract of employment with his previous employer, the Gilford Motor Co.

(ii)

© ABE

52

The Law Relating to Associations 1: Corporations

In Creasey v. Breachwood Motors Ltd (1993), where a company transferred its assets to another company to avoid liabilities arising from a wrongful dismissal claim brought against the first company, the court allowed the claimant to pursue the assets of the first company into the second company. See also Gencor v. Dalby (2000). Statutory examples of lifting the corporate veil include the following.  The fall in minimum membership of a plc to below the statutory minimum of two members, in contravention of Section 24 of the Companies Act 1985 This states that if a plc carries on business without having at least two members and does so for more than six months, a person who, for the whole or any part of the period that it carries on business after six months, (a) is a member of the company, and (b) knows that it is carrying on business with only one member, is liable jointly and severally with the company for the payment of the company's debts contracted during the period, i.e. after the first six months, or, as the case may be, that part of it. It should be noted that this provision has not been carried over to the Companies Act 2006.  Incorrectly stating a company's name in correspondence etc. Section 349(4), Companies Act 1985, states that if an officer, for example, a director or secretary, signs a bill of exchange (e.g. a cheque) on which the correct name of the company is not stated, he will be required to pay the amount of it, on the basis of personal liability, if the company refuses to honour (pay) it. Again, it should be noted that this provision has not been carried over to the Companies Act 2006.  Where a plc does business or exercises any borrowing powers before it has been issued with a “trading certificate” from the Registrar of Companies This can lead to the directors of the company which is in default being held personally liable for any loss or damage suffered by a third party to any transaction entered into by the company in contravention of this section. It should be stressed that the failure of a plc to obtain trading certificate (under a Section 761 of the Companies Act 2006) before it does business or exercises its borrowing powers, does not affect the validity of a transaction entered into by the company, but where a company operates in contravention and fails to comply with its obligations in connection with the transaction within 21 days from being called upon to do so, the directors of the company are jointly and severally liable to indemnify any other party to the transaction in respect of any loss or damage suffered by him by reason of the company's failure to comply with its obligations (the directors who are liable are those persons who held the office of director at the time when the transaction was made). Directors have joint and several liability with their company just like partners have joint and several liability with their firm.  Where there is a holding and subsidiary relationship between companies, the holding company is required, subject to certain exceptions, not only to prepare its own individual accounts but also group balance sheets and profit and loss accounts of it, the parent and its subsidiary undertakings. This suggests that, for financial purposes at least, the companies within a group are as one. The veil of incorporation can then be lifted between the individual entities (subsidiaries) within the group so that the companies' investors (and others, e.g. the Inland Revenue) can judge the financial position of the group as a whole. In the event of fraudulent trading Under Section 213, Insolvency Act 1986, if the court finds that the business of a company has been carried on with intent to “defraud”, i.e. has engaged in fraudulent trading, it can hold any person (e.g. directors, accountants and/or employees) who were “knowingly parties” to the fraud personally liable to make such contribution to the

© ABE

The Law Relating to Associations 1: Corporations

53

company's assets as the court thinks fit, under the circumstances. Examples of "fraudulent trading" include paying creditors out of order on the preferential list of creditors – especially a party "knowingly" paying one party of creditors off in the knowledge that this will result in creditors higher up the preferential list losing out financially. Liability is no longer limited because the persons who have engaged in fraudulent trading are required to pay a fine set by the court. In a traditional partnership there is no limitation of liability in the event of the firm failing. Partnerships are permitted to have limited partners, but such partners are not permitted to participate in the management of the firm, otherwise they will lose their shield of limited liability.  In the event of wrongful trading Under Section 214, Insolvency Act 1986, if on the winding-up of an insolvent company a past or present director (or shadow director) knew or ought to have known, before the commencement of the winding-up, that there was no reasonable prospect that the company could avoid insolvent liquidation and failed to take every step to minimise the loss to the company's creditors, then the court may declare, on the application of the liquidator, that the person(s) is/are liable to make such contribution as the court thinks fit – unless they can establish that they took every step they ought to have taken with a view to minimising the potential loss to the company's creditors. The judgment standards under this section are based on objective criteria rather than “personal morality and honesty”; a person is to be judged on the basis of his/her own knowledge, skill and experience that could reasonably be expected of someone carrying out his/her "function" in relation to the company. Liability is no longer limited because the director who has engaged in wrongful trading is required to pay a fine set by the court. The following cases affect directors and shareholders.  Williams v. Natural Life Health Foods (1998) Here, the House of Lords stated that a director of a limited company was only personally liable for loss suffered as a result of negligent advice given by him on behalf of the company if he had assumed personal responsibility for that advice. In this case, such an assumption of responsibility had to be determined objectively and the absence of personal dealings would indicate very strongly that the director would have no responsibility.  Re Continental Assurance Co. of London plc (1996) Here, the court decided that a non-executive director of a company had failed to appreciate what the responsibilities of a director were in relation to the understanding of a company's financial affairs. The director was required to exercise the competence required by the Companies Act in relation to the affairs of the company. His conduct as a director of the company made him unfit to be concerned in the management of a company and he was disqualified for three years from holding office as a director.  Hood Sailmakers Ltd v. Axford (1997) Here, the company's Articles stated that a quorum for a meeting was two directors. As the company only had two directors and one of them was abroad, it was not possible to hold a valid meeting. The director remaining in the UK attempted to use the written solution procedure to enable decisions to be made effectively by himself, who remained in the UK. The court decided that this written resolution procedure was invalid as one director was attempting to override the quorum requirements to his advantage.  Ross v. Telford (1997) Here, the court examined a case of corporate deadlock where equal shareholdings held by two parties in a company were preventing decisions being made by the

© ABE

54

The Law Relating to Associations 1: Corporations

company. In this case, and in others, where deadlock arises either from nonattendance rendering meetings inquorate or from equality of voting power, companies find it impossible to function. However, the decision in this case makes it clear that courts will not attempt to solve a dilemma for parties which they have caused, by the way in which they have divided the share capital or organised the quorum requirements. The solution is most likely to rest with the parties themselves, who can resolve the deadlock by agreeing to wind up the company.  Re Park House Properties Ltd (1997) Here, the court held that where directors had never played any active role in a company and had never been paid as directors, they still had obligations to fulfil. In this case, three directors were disqualified from holding office since the law imposes statutory and financial duties on all directors. Their complete lack of involvement in the running of the company, its financial problems and the preparation and filing of accounts led the court to conclude that they were unfit to hold office as directors.

D. COMPANIES IN LAW
Formation
Incorporation A company is formed by the requisite number of persons lodging with the Registrar of Companies a signed Memorandum of Association and Articles of Association. Once these documents are approved by the Registrar, the Registrar issues a Certificate of Incorporation which brings into being a new legal entity. A private company may begin business on the issue of the Certificate of Incorporation, but in the case of a public company, certain other formalities must be observed before the Registrar issues a certificate to commence business. Memorandum of Association The Memorandum of Association states that its signatories wish to be incorporated as a company; the proposed company's name, powers, capital and the situation of its registered office. It must also contain a clause stating that the liability of members is limited. It is expected that, as this document expresses the powers of the company, all persons having dealings with the company shall be acquainted with its provisions, particularly as no act beyond its scope is binding upon the company, even should every member acquiesce. This is the ultra vires doctrine referred to earlier. In Ashbury Carriage Co. Ltd v. Riche (1875), a company was formed with the objects of making, selling and mending railway carriages and, as mechanical engineers, to purchase, lease and work mines, minerals, land and buildings. It purported to enter a contract to purchase a concession to build a railway in Belgium. The members of the company, in general meeting, ratified the contract, but it was nevertheless held to be ultra vires and void, for it was beyond the objects clause in the Memorandum. However, the 1985 Act consolidated significant amendments to the ultra vires doctrine as a result of the harmonisation of British company law with EC (now EU) law. Section 35 modified the doctrine by providing that a person dealing in good faith with a company need no longer inquire into the limitations on the capacity of the company or powers of the directors. This has the effect of preventing the company from avoiding its responsibility under an ultra vires contract, but left the bona fide third party the option of either enforcing such a contract against the company or of backing out on the grounds that the contract was ultra vires.

© ABE

The Law Relating to Associations 1: Corporations

55

In 1989, further legislation reached the statute book on this particular issue. Section 108, Companies Act 1989, substituted new Sections 35, 35A and 35B into the 1985 Act. These new provisions, to all intents and purposes, abolished the ultra vires rule altogether, in so far as it affects companies formed or registered under the 1985 Act. The provisions are as follows. (a) By Section 35, "the validity of an act done by a company shall not be called into question on the ground of lack of capacity by reason of anything in the company's Memorandum". A shareholder may, however, still obtain an injunction to restrain an intended ultra vires act, providing he/she does so before any binding legal obligation has been entered into by the company. Furthermore, directors will remain liable for any acts which are ultra vires the Memorandum, unless those acts are ratified by a special resolution and a further special resolution is passed to relieve them of liability. (b) Section 35A brings within the section the power of directors to bind the company to acts within the power of the company. Neither Section 35 nor Section 35A applies to charities. (c) Section 35B relieves a party to a transaction with a company from the need to inquire into the terms of a company's Memorandum or any limitation in the directors' powers.

Similar provisions are enacted for companies not formed under the Act, but which are registered under it, and for unregistered companies. Section 110 of the 1989 Act also substitutes a new Section 3A and Section 4 into the 1985 Act. These provisions enable a company to state that its object is to "carry on business as a general commercial company", which is explained as enabling the company to "carry on any trade or business whatsoever ... (and to do) ... all such things as are conducive to carrying on any trade or business by it". The sections also enable the company to alter its objects for any purpose whatsoever. See now: s21(1) Companies Act 2006. Formerly the opportunities for such alterations were restricted to a few specific situations. For companies which choose to adopt such a broadly worded objects clause and to avail themselves of the modified procedures, the ultra vires doctrine would appear to be dead. Articles of Association The Articles of Association are the rules for the internal management of the company. The First Schedule of the Companies Act is known as "Table A" and it constitutes a model set of Articles which are applicable to every company, unless the company's own Articles expressly exclude or modify the provisions of Table A. Under the 2006 Act there are separate sets of model articles for private companies and plcs. Matters regulated by the so-called model set of articles include:       Share Capital Transfer of Shares Votes of Members Appointment of Directors Dividends Winding-up      Alteration of Share Capital Proceedings of General Meetings Powers of Directors Removal of Directors Accounts

Can the Articles of Association be amended following incorporation? Yes, by following the procedure laid down in Section 21(1) of the Companies Act 2006, which states that “a company may amend its articles by special resolution”. See the case of Citco Banking Corp v. Pusser’s Ltd (2007).

© ABE

56

The Law Relating to Associations 1: Corporations

However, it should be noted that, among other things, the statutory power of a company to amend its articles must be exercised subject to the common law requirement that the shareholders who vote in favour of the resolution must exercise their power to vote “bona fides for the benefit of the company as a whole”: Allen v. Gold Reefs of West Africa Ltd (1900). The exact meaning of the phrase “bona fide for the benefit of the interest of the company as a whole” is thus of paramount importance. It can be seen from the decided case law in this field that the determination of whether or not an alteration is “bona fide for the benefit of the interest of the company as a whole”, involves a subjective element, in that those deciding on the alteration must genuinely believe that they are acting in the interests of their company as a whole. However, there is also an objective element. In Greenhalgh v. Arderne Cinemas Ltd (1951), it was stated by Evershed MR that any alteration had to be in the interest of the “individual hypothetical member”. Moreover, in Brown v. British Abrasive Wheel Co. (1919), an alteration to the articles of the company was proposed to give the majority shareholders (98%) the right to purchase the shares of the minority (2%). It was held that the alteration was invalid as it would benefit the majority shareholders, rather than the company as a whole and was, in any case, too wide a power. Conversely, in Sidebottom v. Kershaw Leese & Co. (1920), an alteration to the articles gave the directors the power to require any shareholder who entered into competition with the company, to transfer the shares to nominees of the directors at a fair price. It was held that, under those circumstances, the alteration was valid as it would benefit the company as a whole. Moreover, the courts have held that it may be in the interests of the company to purchase, compulsorily, a member's shares or to alter the whole structure of the company. Of course, if it can be shown that the majority are acting dishonestly or oppressively in making such an alteration, then the resolution will be declared invalid: Clemens v. Clemens Bros Ltd (1976). Furthermore, the articles cannot be altered in such a way as to conflict with the memorandum (as it is the superior constitutional document) or any provision of the Companies Acts. In particular, no member can be bound by any alteration to subscribe for more shares or increase their liability to contribute to the capital of company in any way: Section 25 of the Companies Act 2006. Any alteration to the articles, after the date on which the member became a member, which requires the member to take or subscribe for more shares than the member holds, or which increases a member's liability to pay money to the company, will not be enforceable against the member in a court of law, unless they have agreed in writing to subscribe for more shares etc. Is a company member entitled to object to a proposed amendment of the Articles of Association? Yes, any member, irrespective of the size of his shareholding, has two possible courses of action open to him. (a) Under common law, he can seek to get the amendment set aside on the grounds that it is not “bona fide for the benefit of the company as a whole”. The phrase “bona fide for the benefit of the company as a whole” originates from the words of Lindley MR in the case of Allen v. Gold Reefs of West Africa (1900): "…the power conferred must, like all other powers, be exercised subject to those general principles of law and equity which are applicable to all powers conferred on majorities and enabling them to bind minorities. It must be exercised, not only in the manner required by law, but also bona fide for the benefit of the company as a whole."

© ABE

The Law Relating to Associations 1: Corporations

57

It seems, therefore, that the test which should be applied is whether the proposal is, in the honest opinion of those voting for it, "bona fide for the benefit of the company as a whole" (i.e. for the benefit of all the company's members). (b) Under Section 994(1) in the Companies Act 2006, he/she can bring a petition on the grounds that the proposed amendment of the articles is unfairly prejudicial to him/her in his/her capacity as a company member. The usual remedy awarded by the courts in such cases is the purchase of the member’s shares under Section 996(2)(e) in the Companies Act 2006. So what sort of conduct by a company is likely to be regarded by the court as unfairly prejudicial? Case law has established a number of situations which, prima facie, amount to unfairly prejudicial conduct and it should be emphasised that conduct may be perfectly lawful but still unfairly prejudicial. Thus the following types of conduct have been deemed to be unfairly prejudicial by the English courts.  Exclusion and removal from the board where the company was one in which the director had a legitimate expectation of being involved in management, i.e. a quasi-partnership company. In Re Bird Precision Bellows Ltd (1986), a minority shareholder with 26% of the shares suspected that the managing director of “this quasi-partnership” company was concealing bribes that he had received in order to secure contracts. When the Department of Trade & Industry refused to investigate, the minority shareholder was removed from the board. The minority shareholder claimed that this amounted to unfairly prejudicial conduct. His claim was upheld. A policy of making low dividend payments. In Re Sam Weller & Sons Ltd (1990), the petitioners, who between them held 42.5% of the shares in their family business, complained that the company had not increased its dividend for 37 years, despite its profitability. In 1985 its net profit had been £36,000, yet only £2,520 was paid out in dividends. The company was controlled by the petitioners' uncle, Sam Weller, who, along with his sons, continued to receive directors' fees and remuneration. Peter Gibson J. commented on the petitioners' position: "As their only income from the company is by way of dividend, their interests may not only be prejudiced by the policy of low dividend payments, but unfairly prejudiced."

Restrictions on a company's power to amend its Articles of Association (a) Any alteration of the articles must be “bona fide for the benefit of the company as a whole”. That is, any amendments which cannot be so regarded will be deemed invalid, irrespective of whether a special resolution has been passed in favour of the alteration concerned in general meeting. As indicated above, the exact meaning of the phrase “bona fide for the benefit of the company as a whole” is best understood by making reference to decided case law in this area.  In Sidebottom v. Kershaw, Leese & Co. (1920), an alteration of the articles, enabling the directors who were also the majority shareholders, to request the compulsory purchase of the shares, at a fair value, of any member competing with the company's business, was approved by the court. The court found this to be a valid alteration of the articles because, in the words of Lord Sterndale MR: "it is for the benefit of the company that they should not be obliged to have amongst them as members, persons who are competing with them in business and who may get knowledge from their membership which would enable them to compete better."

© ABE

58

The Law Relating to Associations 1: Corporations

In Brown v. British Abrasive Wheel (1919), the company, British Abrasive Wheel, needed to raise additional capital. Ninety eight per cent of the shareholders were willing to contribute the required capital, but only on the condition that they could buy out the 2% minority shareholding in the company. Having failed to affect this by agreement, the 98% majority then proposed to alter the company's articles of association in order to give them the power to compulsorily purchase the shares of the 2% minority. The minority shareholders objected to this alteration and brought an action against the company on the ground that the alteration was not “bona fide for the benefit of the company as a whole”. The court agreed with the minority shareholders, irrespective of the fact that the majority shareholders were prepared to insert any provision as to price, which the court deemed fair. The rationale for the court's decision to disallow the alteration of that articles was that the proposed alteration could not be truly regarded as 'bona fide for the benefit of the company as a whole' but rather for the benefit of the majority shareholders and was, in any case, too wide a power. Moreover, there was no direct link between the company's need to raise additional capital and the alteration of the articles. Although the whole scheme of events had been geared towards the provision of extra capital, following the removal of the objecting minority shareholders, it would, in fact, have been possible after the minority had been expelled from the company, for the majority shareholders to then refuse to provide the additional capital.

(b)

The amendment must not contravene Companies legislation The statutory restrictions on a company's power to alter its articles are the same as the restrictions in relation to its power alter its Memorandum.  A member cannot be required to take more shares. Section 25 of the Companies Act 2006 provides that the articles cannot be altered so as to require a member to take up more shares, or in any way to increase his liability to contribute to the share capital or otherwise pay money to the company, unless he consents in writing. The right of a member to object to a variation of his class rights cannot be taken away. Under Section 633 of the Companies Act 2006 shareholders have a statutory right to object to a variation of their class rights. The object of this section is to protect shareholders from being prejudiced by the voting of other shareholders who hold shares of another class in addition to those of the class affected by the variation. In accordance with the Act, 15% of the class not voting for the variation may apply to the court to have it cancelled within 21 days of the consent of the class being given, whether in writing or by resolution. Once such an application has been made, usually by one or more dissentients on behalf of the others, the variation will not take effect unless and until the court confirms it. For example, if a variation reduces the dividend on preference shares from 7% to 6% per annum, and 80% of the preference shareholders are also ordinary shareholders, the requisite consent of the preference shareholders is likely to be obtained, since the variation will leave more profits for a dividend on the ordinary shares – this would be unfair to the 20% of the preference shareholders who are not ordinary shareholders and they could petition to have the variation cancelled. The right of a member to bring a petition on the grounds of unfair prejudice cannot be taken away: Section 994, Companies Act 2006. A member might bring a petition on the grounds of unfair prejudice in the following cases. (i) Where the majority shareholder and director is using the assets of the company for his own personal benefit. In Re Elgindata (No.1) (1991), the majority shareholder and director used the assets of the company for his

© ABE

The Law Relating to Associations 1: Corporations

59

own personal benefit. The petitioner complained that this was unfairly prejudicial to him and the court, subsequently, ordered the respondents to purchase the shares held by the petitioner. (ii) Where the majority shareholder is, in effect, transferring sources of profit into another company owned by them. In Re London School of Electronics Ltd (1986), a petition was presented by a minority shareholder where the majority shareholder was, in effect, transferring sources of profit into another company owned by him. The court held that this was unfairly prejudicial conduct and made an order for the majority shareholder to purchase the petitioner's shares.

(c)

The proposed alteration of the articles must not conflict with a court order For example, in accordance with Section 996 of the Companies Act 2006, following a petition on the grounds of unfair prejudice, a court may order that a company does not make any, or any specified, alterations to its articles without obtaining the leave of the court.

Name of a Company
Registration The Memorandum must state the name of the company. The general rule is that any name may be selected. However, a company cannot be registered by a name which, in the opinion of the Department of Trade, is undesirable. Also, the last word of the name of a limited company must be the word "Limited" or "plc", as appropriate, unless permission is given to dispense with the word "Limited". In selecting a name, it is not necessary to use the word "company" and the modern tendency is to omit it. The Department of Trade's policy regarding undesirable names is explained in an official Guidance Note, but the list of rules contained in it is not exhaustive and does not restrict the Department's discretion. In general, a name will not be allowed if it is misleading, e.g. if the name of a company with small resources suggests that it is trading on a great scale. A name will be refused if it is too like the name of an existing company. Only in very exceptional cases and for valid reasons will names be allowed which include "British", "Royal", "Imperial", "National", "International" "Commonwealth", "Co-operative", "Bank", "Trust", "Crown", etc. Change of name A company may change its name by special resolution, with the approval of the Department of Trade. A small fee is payable to the Registrar for filing the new name and the issue of a new Certificate of Incorporation. The change does not affect any rights or obligations. Part 41 of the Companies Act 2006 This Act applies to companies, partnerships, or individuals who carry on business under a name other than the corporate name of the company, the forenames and surnames of the partners, or individual. Businesses controlled by the Act must state on all letters, written orders for goods and services, invoices and receipts, and written demands for payment of debts:     in the case of companies, their corporate name in the case of a partnership, the name of each partner in the case of individuals, their own names and in each case, an address within Great Britain for the service of legal and statutory documents.

© ABE

60

The Law Relating to Associations 1: Corporations

They must also display on any premises, to which customers or suppliers have access, a prominent notice containing such names and addresses.

Capital of a Company
Types of capital The term "capital" may be used in various senses. It may mean the nominal or authorised share capital; the issued share capital; the paid-up share capital or the reserve share capital of the company. The capital is issued in the form of different classes of shares or stock, which are subscribed by the members. Stock has been defined as "simply a set of shares put together in a bundle": Morrice v. Aylmer (1875). Paid-up shares may be converted into stock. For example, a company which has 10,000 paid-up £1 shares may convert them into £10,000 worth of stock. If shares are converted into stock, the value of the holder's stake in the company remains the same, although it is expressed in different terms, e.g. a person who formerly held 100 shares of a nominal amount of £1 each will now hold a nominal amount of £100 worth of stock. The different types of share capital noted above are, in more detail, as follows. (a) Nominal or authorised capital The Memorandum of Association sets out the maximum amount of capital which the company is authorised to issue, although a company need not issue capital to the full amount authorised unless, or until, it wishes to do so. The company's nominal or authorised capital depends on its business requirements. (b) Issued capital This is that part of the company's nominal capital which has been issued to the shareholders. (c) Paid-up capital This is the proportion of the issued capital which has been paid up by the shareholders. The company may, for example, have a nominal capital of £500,000 divided into 500,000 shares of a nominal amount of £1 each, of which £400,000 is issued (i.e. 400,000 of the shares have been issued) and only £100,000 is paid up because the company has, so far, required only 25p to be paid up on each share. (d) Uncalled capital Uncalled capital is the balance of the issued capital and it can be called up at any time by the company from the shareholders. (e) Reserve Capital This is that part of the uncalled capital which a company has, by special resolution, determined shall not be called up, except in the event and for the purposes of the company being wound up. Shares A share may be of any chosen denomination, e.g. £5, £1, 50p. This is known as the nominal value and should not be confused with the actual price paid. A share originally issued for £1 may increase in value, so that the market price becomes £3 or more, or it may decrease in value, so that the market price is only a few pence. The nominal value always remains the same and has little significance, whereas the market price depends on whether investors consider that the future prospects of the company are good or bad. When shares are issued, they need not necessarily be paid for in full. Sometimes the company does not need to use the whole amount represented by the share capital at the

© ABE

The Law Relating to Associations 1: Corporations

61

time of issuing the shares and consequently, £1 shares may be paid in part (e.g. 50p), with the balance remaining payable on "call" from the company when it requires the funds. The liability of the shareholder is limited to paying the market or issue price (or any unpaid amount of "call") of his/her shares. He/she cannot be required to contribute further to the company's debts, even though it is hopelessly insolvent. This is the meaning of the term "limited liability", which is a basic principle of company law. In other words, once the shareholder has purchased fully paid shares, he/she is under no liability whatsoever for the debts of the company. If he/she has purchased partly paid shares, his/her liability is limited to the unpaid portion of the nominal value; if the shares are nominally £1 each and 75p was paid on issue, he/she is liable to pay no more than 25p per share when requested to do so by the company. Note that we are talking about the nominal value of partly paid shares; the market price varies according to demand and supply and the shareholder may have paid 60p, or even £1.25, each to purchase the shares, but this does not affect his/her liability for 25p each. The shares which make up the capital of the company are usually of two main types; either preference shares, which entitle the holder to be paid a dividend at a fixed rate per cent before any other dividend is payable, or ordinary shares, which are entitled to distribution of a dividend out of the remaining profit, the rate of dividend being decided each year according to what the company can afford. In the event of a winding-up, the company's preference shareholders usually carry the right to the return of capital before the ordinary shareholders, who are dependent upon the assets available. Rights of shareholders when a company is a going concern (a) Voting rights Ordinary shareholders have superior voting rights to those enjoyed by preference shareholders. The right to vote at general meetings equals the right to influence the way the company's affairs are conducted, by voting at meetings of members. The model articles for plcs and private companies only govern the voting rights of ordinary shareholders. Each member has one vote on a “show of hands” or on a “poll” – "one vote for every share of which he/she is the holder". Preference shareholders can normally only vote in certain specified circumstances as identified either by their company's constitution or the terms of share issue. Normally preference shareholders of a company are only given the right to vote in certain specified circumstances, e.g. where the rights attached to their preference shares are being varied, in which case they will have no right to vote in any other circumstances. (b) Dividend rights Ordinary shareholders always have the right to participate in the distribution of profit. As long as the company continues to operate as a going concern, ordinary shareholders are entitled to a dividend of profit, which may be of any size as recommended by the directors and approved by the company's members. The amount of dividend distributed to an ordinary shareholder is proportional to the nominal value of the shares, which he/she holds. Preference shareholders only have the right to participate in the distribution of profit if it is expressly given by the company's constitution and/or terms of issue. Ordinary shareholders don't have a right to a dividend of a fixed rate. The size of an ordinary shareholders dividend is dependant on the size of the company's profit. No profit equals no dividend. The dividend of preference shareholders is paid at a fixed rate, e.g. 6% of the nominal value of each share, and is payable in priority to the payment of a dividend to any other class of shareholder. Ordinary shareholders don't have a right to a cumulative dividend. Dividends on ordinary shares are never cumulative. No profit equals no dividend. Preference share dividends in the absence of an express provision to the contrary are assumed to be cumulative.

© ABE

62

The Law Relating to Associations 1: Corporations

(c)

Statutory pre-emption rights Companies legislation provides that no company can allot securities without first offering them pro rata to existing ordinary shareholders on the same or more favourable terms than it is proposing to offer them to other people – this is commonly termed a “rights issue”. The shareholders must be given 21 days in which to decide whether to accept or reject the offer. Section 561 in the Companies Act 2006 provides valuable protection for existing shareholders by requiring that new shares be first offered to existing members so that their proportionate holding in the company can be maintained, hence the term rights issue. Preference shareholders do not have statutory pre-emption rights, although they could obtain pre-emption rights if they were expressly given to them by their company's articles of association.

(d)

Freely transferable subject to articles of association This right applies to both ordinary and preference shares.

Rights of shareholders on winding-up (a) The payment of arrears of cumulative dividend which have been declared Ordinary shares are never cumulative; therefore, no such rights exist. Preference shareholders do have this right and it is normal for the articles of a company to provide for the payment of such arrears. (b) Limitation of liability This means that, in the event of corporate failure, a member's liability is limited to any amount outstanding on their shareholding, plus the whole of any share premium. This right applies to both ordinary and preference shareholders. (c) The right to have their capital contribution returned Ordinary shareholders always have the right to have their capital contribution returned to them on winding-up. If preference shares are given participating rights by their company's constitution, ordinary shareholders will rank behind the holders of that class. (d) The right to participate in the distribution of surplus assets Ordinary shareholders always have this right. The rights of preference shareholders are exhaustive. They are not entitled to participate in the distribution of any surplus assets unless they are expressly given this right by their company's articles of association. Alteration of capital A limited company with a share capital, if so authorised by its Articles, may alter the conditions of its Memorandum by:      increasing its share capital by new shares or consolidating and dividing all or any of its share capital into shares of larger amount than its existing shares or converting all or any of its paid-up shares into stock, or reconverting stock into paid-up shares of any denomination or subdividing all or any of its shares into shares of smaller amount than is fixed by the Memorandum or cancelling shares which have not been taken or agreed to be taken by any person.

All these powers require a resolution of the company, in general meeting, to be exercised.

© ABE

The Law Relating to Associations 1: Corporations

63

Meetings
Classification There are three kinds of General (shareholders') meetings of companies. (a) Annual General Meetings (AGM) Every company must hold its first AGM within 18 months of incorporation and thereafter within six months of a company’s financial year ending and at least once in every calendar year, in accordance with s366 CA 2006. This means that, if a company holds its AGM on 1 January 2010, then it must hold its next AGM by 31 March 2011 at the latest. If a company fails to hold an AGM then any member may apply to the Secretary of State to call a meeting in default. The business conducted at AGMs tends to be routine, such as the re-election of directors; appointment of auditors, consideration of accounts and approval of dividends. In line with the recognised distinction between public and private companies, the Companies Act of 1989 introduced a new provision, which permits private companies, subject to approval by a unanimous vote, to dispense with the need to hold an annual general meeting. Under CA 2006 it is no longer necessary for a private company to convene a general meeting. (b) Extraordinary General Meetings (EGM) An extraordinary general meeting is any meeting other than an AGM. EGMs are usually called by the directors, although members holding 10% of the voting shares may requisition such a meeting by virtue of s303 CA 2006. The directors of a company must call an EGM within 28 days of becoming aware of this situation, if the net assets of a public company have been reduced to less than half in value of the company's called-up share capital. The main purpose of such a meeting is to consider what, if any, remedial measures should be taken by the company to deal with the situation. (c) Class Meetings This refers to the meeting of a particular class of shareholder, i.e. those who hold a type of share providing particular rights, such as preference shares. Where a proposal is put forward to vary the class rights attached to particular shares, then it is necessary to obtain the approval of the holders of the particular class concerned. In order to achieve this approval, a meeting of those holding such shares has to be called to seek their approval of any proposed variation. Statutory provisions There are detailed statutory provisions concerning a number of matters in connection with the calling and conduct of meetings, including the following.   A specified minimum notice of meetings must be given to all the members. The notice must state whether it is proposed to transact any "special business" at the meeting and, if so, it must state the nature of such special business. (This is to protect members from the danger of allowing important changes in the company's structure or policy to be made in their absence.) No business can be transacted unless a quorum is present. Provisions are made with regard to the duties and powers of the chairman of the meeting (usually the chairman of the Board of Directors).

 

© ABE

64

The Law Relating to Associations 1: Corporations

There are rules governing voting. Voting may be by show of hands or (on the demand of any person present and entitled to vote) by poll. In the latter case, members may vote by proxy. (A proxy is a written instrument entitling another to vote in a member's place, and the Act makes detailed provisions concerning voting by proxy.) Special provisions are made with regard to the three kinds of resolutions that may be passed at meetings – ordinary, extraordinary and special. These are outside the scope of your course.

By the rule in Foss v. Harbottle (1843), the court will not interfere at the suit of a member, or a minority of members where there is a wrong done to a company itself or an irregularity in its internal management, if such action is capable of confirmation by a majority of the members. However, there are certain exceptions to this rule, e.g. a minority may sue to prevent the company from acting illegally or ultra vires, or from perpetrating a fraud on the minority of members.

Directors
Nature of directorship All registered companies must have directors, and normally there must be at least two, although one suffices for a private company or one registered before 1929. The position of directors is similar to that of trustees, e.g. in their fiduciary relationship to the company, in issuing shares, and approving transfers of shares. However, they are trustees for the company and not for the individual shareholders, nor for third parties who have made contracts with the company. Directors are also sole agents for the company when they make contracts for the company and, as such, are in a fiduciary position to the company and cannot make secret profits at the company's expense. A company may act only through its agents – and such agents, if they direct and control the company's affairs, are deemed to be directors. Under the Act, "director" includes any person occupying the position of director, by whatever name called. Powers of directors The powers of directors are usually set out in the Articles, authorising them to carry on the business of the company, and there is generally an additional clause giving them powers of management and all the powers of the company which are not otherwise specifically mentioned in the Articles. If the Articles are silent on this point, the law implies that all the ordinary powers connected with a business of the same kind as that carried on by the company are being conferred upon the directors. The powers of directors may be enlarged, or in certain circumstances restricted by the shareholders, and if the directors act beyond their powers the shareholders may ratify their act, provided it is not ultra vires the company. One of the main changes of the 2006 Act is the setting out for the first time of a statutory framework for the legal duties of Company Directors. As we have already said, a director is in a fiduciary position to the company in his/her capacity as agent, and he/she cannot, therefore, place his/herself in a position where his/her own interests conflict with his/her duties. Directors must on no account make any secret profits. Any such benefit is regarded as a bribe, and the directors are accountable to the company for such. Where a director accepted a gift of 200 fully paid shares from the promoter of the company, he was compelled to make good to the company the advantage gained: Eden v. Ridsdale Lamp Co. (1889).

© ABE

The Law Relating to Associations 1: Corporations

65

A director is bound to exercise faithfully the trust he has accepted, and is bound to exercise fair and reasonable diligence in discharging his duties and to act honestly; but he is not bound to do more: Re Forest of Dean Company (1878). Liabilities of directors The directors are liable for negligence or breach of trust in relation to the company's affairs. The Act makes ample provision for the liability of directors guilty of fraud, or gross negligence, in respect of the company or third persons. During the course of a winding-up, the Act provides that a director who has misapplied or retained or become liable or accountable for any money or property of the company, or has been guilty of any misfeasance or breach of trust in relation to the company, may be compelled to repay or restore the money or property or to pay such sum to the company as the court thinks fit. Directors are personally responsible for fraud; although, where the company has taken advantage of fraudulent misrepresentations, the company may be held bound as well as the directors. A director owes a duty to the company to devote to his/her duties such care, prudence, and diligence as could reasonably be expected of a reasonably responsible person in those kind of circumstances. He/she must exercise such skill as may reasonably be expected of a person of his/her knowledge and experience. For care and diligence, the director's conduct is measured objectively against the standards of the reasonably prudent and responsible person. For skill, or "professionalism", the executive director with a service contract will be required to display higher standards. Like any other responsible employee, she will be required to show both care and skill of a kind to be expected of an employee receiving that kind of salary and charged with those kind of responsibilities.

Borrowing by a Company
Borrowing powers Trading companies have implied power to borrow for trading purposes and to give security for loans, unless expressly prohibited from doing so by the Memorandum of Association. Other companies need express power to raise loans. If a loan (or any portion of a loan) is ultra vires the company, it is void, even if it is ratified by the members in general meeting. However, in such circumstances, the lender may have the following remedies.    If the money has not been spent, he can obtain an injunction restraining the company from parting with it and he can recover it. He can bring an action against the directors for breach of warranty of authority. If money has been used to pay creditors, the lender may stand in the place of such creditors (this is known as subrogation), but he/she will not get any priority which may have attached to such creditors' interest.

Debentures A company may borrow money by the issue of debentures which are, in reality, promises to repay the sum borrowed and are executed under the seal of the company. A debenture can be a document issued to such lender and it is then a self-contained security, entitling the holder to take action in his/her own name. An alternative method of raising funds is to execute one debenture in the form of a trust deed, appointing trustees. Lenders do not receive an actual debenture, but only a debenture stock certificate. Debenture stock is the whole amalgamated borrowing of the company and holders of stock certificates are not, generally, entitled to take proceedings individually, but have to do so through the trustees, who are the beneficiaries of the promises in this case.

© ABE

66

The Law Relating to Associations 1: Corporations

A debenture is merely a promise to repay the money borrowed and it does not, of itself, constitute an actual charge on the assets of the company. It is usual to give security to the debenture holders by effecting a mortgage or charge on the assets of the company, so that, in the event of the company's being wound up, the debenture holders have a first claim to receive payment. This security may be given in the form of a fixed charge, a mortgage on some specific part of the company's assets, e.g. the factory premises at X town, or by means of a floating charge, which may be described generally as relating to the whole of the assets of the company. The advantage of a floating charge, from the company's point of view, is that it remains entitled to deal freely with the assets so charged. Distinction between debentures and shares Debentures must be carefully distinguished from shares in a company. In modern times, they are often regarded by investors as being merely different species of the same thing; each enables members of the public to invest in a company and to participate in its profits. However, in law, they are quite distinct. A shareholder is a member of the company, with certain rights and liabilities. A debenture holder is not a member of the company – but a person outside the company who happens to be its creditor; legally, his/her position vis-à-vis the company is similar to that of ordinary trading creditors. Secondly, a shareholder's dividends are his/her share of the company's profits; debenture holders merely receive interest on the loan. In modern times, the distinction has tended to become blurred by reason of the increase in popularity of issues of shares that do not carry voting rights and preference shares that are entitled to a fixed dividend – the position of such shareholders is very similar in practice to that of debenture holders – but the legal position, largely for historical reasons, is that they are completely different and distinct.

Common Seal
The common seal of a company is the signature of the company and the sealing of a document is witnessed by the officers of the company specified in the Articles of Association. The seal must be kept at the registered office of the company under some form of control which will adequately prevent its unauthorised use. However, as mentioned above, the company may act in a number of ways through its agents, and it is no longer necessary for documents in normal business use to be impressed with the seal of the company. The Companies Act 1989 provides for documents to be signed as a deed and for companies to dispense with the use of a seal in commercial transactions.

Minority Protection
Protection of members’ interests against unfair prejudice Case law has established a number of situations which, prima facie, amount to unfairly prejudicial conduct and it should be emphasised that conduct may be perfectly lawful but still unfairly prejudicial. Thus the following have all been found to be unfairly prejudicial.  Exclusion and removal from the board, where the company was one in which the director had a legitimate expectation of being involved in management i.e. a quasipartnership company: In Re Bird Precision Bellows Ltd (1986), a minority shareholder with 26% of the shares suspected that the managing director of “this quasi-partnership” company was concealing bribes that he had received in order to secure contracts. When the Department of Trade and Industry refused to investigate, the minority shareholder was removed from the board. The minority shareholder claimed that this amounted to unfairly prejudicial conduct. His claim was upheld. The majority shareholder and director using the assets of the company for his own personal benefit. In Re Elgindata (No.1) (1991), the majority shareholder and director used the assets of the company for his own personal benefit. The petitioner complained that this was unfairly prejudicial to him and the court granted an order

© ABE

The Law Relating to Associations 1: Corporations

67

under what was s461 of the Companies Act 1985, in accordance with which the respondents were ordered to purchase the shares held by the petitioner.  A policy of making low dividend payments. In Re Sam Weller & Sons Ltd (1990), the petitioners, who between them held 42.5% of the shares in their family business, complained that the company had not increased its dividend for 37 years, despite its profitability. In 1985, its net profit had been £36,000 yet only £2,520 was paid out in dividends. The company was controlled by the petitioners' uncle, Sam Weller, who along with his sons continued to receive directors' fees and remuneration. Peter Gibson J. commented on the petitioners' position: "As their only income from the company is by way of dividend, their interests may not only be prejudiced by the policy of low dividend payments, but unfairly prejudiced."

It should be noted that the courts may also take the petitioner's conduct into account when deciding whether certain actions are unfairly prejudicial, as demonstrated by the case of Re R A Noble & Sons Ltd (1983). The minority shareholder had provided the capital but had left the management of the company in the hands of the other director, on the understanding that he would be consulted in relation to major policy matters. However, he was not so consulted by the other director and confined himself to enquiries of the activities to the other director on social occasions and accepted assurances that all was well. His petition, under Section 459 of the Companies Act 1985, followed on from a breakdown in the relationship between the two directors. It was held that the minority shareholder's exclusion from the company's management was largely the result of his own lack of interest. Consequently, his petition was dismissed. In the event that a petition is successful, the court make such order that it deems fit for giving relief in respect of the matters complained of, including:  regulating the future conduct of the company's affairs, e.g. that a controlling shareholder should conform with all the decisions that are taken during the course of board meetings requiring the company to do an act that it has omitted to do or to refrain from doing an act so complained of providing for the purchase of the shares of the minority shareholder at a fair value by other members or by the company itself – the usual remedy requiring the company not to make any specified alteration/amendment to its articles of association without leave of the court.

  

Applications by minority shareholders to have a company wound-up on just and equitable grounds The court has enormous discretion when considering whether it would be “just and equitable” to compulsorily wind-up a company under Section 122(1)(g) of the Insolvency Act 1986. Court orders on this ground have been granted, among other things:  Where breakdown of mutual trust and confidence has occurred, especially in the case of a quasi-partnership: Ebrahimi v. Westbourne Galleries Ltd (1972), where Mr Ebrahimi and Mr Nazar had carried on business in partnership dealing in Persian and other carpets. They shared equally in management and profits. In 1958, they formed a private company carrying on the same business and were appointed as its first directors. Shortly after the company's incorporation, Mr Nazar's son, George, became a director. Mr Nazar and his son between them held the majority of the votes exercisable at General Meetings. The company made good profits, which were all distributed as director's remuneration; no dividends were ever paid. In 1969, Mr Ebrahimi was removed from his office as a director by a resolution at a General Meeting under what is now known as Section 303 of the Companies Act 1985 and a provision of the

© ABE

68

The Law Relating to Associations 1: Corporations

company's articles. Following on from this, Mr Ebrahimi asked the court to find that it was "just and "equitable" to compulsorily wind-up the company. It was held by the House of Lords that the company should be compulsorily wound-up on “just and equitable” grounds because of Mr Ebrahimi's inability, after his dismissal, to participate in the company's management and because profits were paid as director's remuneration.  Where there is a complete deadlock in the management of the company's affairs: Re Yenidje Tobacco Co Ltd (1916), where two sole traders had merged their businesses into a company of which they were the only directors and shareholders. They quarrelled bitterly, refused to speak to each other and conducted board meetings by passing notes through the hands of the secretary. One sued the other for fraud and he, in turn, petitioned to have the company wound-up on just and equitable grounds. The court stated that: “in substance these two people are really partners” and by analogy with the law of partnership (which permits the dissolution if the partners are really unable to work together) it was just and equitable in this case to wind the company up. Where the managing director, who also represented the majority shareholding interest in the management of the company, refused to hold general meetings, submit accounts or pay dividends: Loch v. John Blackwood Ltd (1924).

Administration
What is an administration order? An administration order is an alternative procedure for dealing with the affairs of an insolvent company, established by the Insolvency Act 1986. It is an order directing that, during the period in which it is in force, the affairs, business and property of the company shall be managed by a person appointed for that purpose by the court and known as “the administrator” in accordance with Schedule B1 of the Insolvency Act 1986. A licensed insolvency practitioner is appointed as an administrator by the court under an administration order. The order is usually sought through a petition by a company that is, or is likely to become, insolvent. Administration orders were introduced by the Insolvency Act 1986 as a constructive way of trying to save a company's business. Who may apply for an administration order? In accordance with Schedule B1 of the Insolvency Act 1986 applications can be made by:     the company itself the directors of the company a creditor or group of creditors of the company (including floating charge holders over the whole or substantially the whole of a company's property) the supervisor of a company voluntary arrangement – notice of the petition must immediately be given to prescribed persons and cannot be withdrawn except with the leave of the court.

Under what circumstances is an application for an administration order likely to be successful? Can one or more of the objectives of the three-part test in Schedule B of the Insolvency Act 1986 be met? The primary objective will be to rescue the company in whole or in part as a going concern. Where a company can be rescued, then the rescue plan will be put into action. Inter alia, if the company involved is a holding company with subsidiaries, this could involve them selling off one of the subsidiary companies within their group to ensure the group's long-term financial survival, in other words, “downsizing”.

© ABE

The Law Relating to Associations 1: Corporations

69

The administrator may pursue the secondary objective of maximising returns for the company's creditors as a whole, over and above what would be likely if the company were wound-up without first going into administration, if the administrator considers the primary objective is not reasonably practicable. This could involve the company concerned continuing to trade until such time as it has satisfied outstanding customer orders and sold its remaining stock-in-trade, in the interests of a more beneficial winding-up. In this way the company would maximise returns for its creditors over and above what would be likely if the company were wound-up immediately without first going into administration. The third objective, which will only apply if neither of the other two objectives is possible, will be to realise property, to make a distribution to one or more of the secured or preferential creditors but without "unnecessarily harming" the interests of the creditors as a whole. Where there are no funds available for the unsecured creditors, the administrator will realise the company's assets and make payments to preferential creditors and fixed and floating charge holders and will arrange for the company to be placed into creditors' voluntary liquidation. An application for an administration order is likely to be successful in those cases where one or more of the objectives of the above three-part test can be satisfied, e.g. the second and third objective. It follows that an administration order will not be made where a company has already gone into liquidation: Schedule B1, Insolvency Act 1986. Advantages of the administration order as an insolvency procedure The two main advantages are as follows.  Once an administration order has been issued, it is no longer possible to commence winding-up proceedings against the company or enforce charges on the company's assets. This major advantage is in no way undermined by the fact that an administration order cannot be made until after a company has begun the liquidation process. It is open to a secured creditor to enforce their rights and to forestall the administration procedure. An administration order can be put in place very quickly, in response to the urgent needs of a company and its business. The company then has the benefit of a stay on all creditors' actions and the administrator has wide powers to deal with not only the company's assets but also those of third parties subject, in some cases, to the court granting leave for the proposed action. Administration is a collective procedure that almost always, in the long-term, offers better returns to unsecured creditors than an immediate liquidation.

The effect of an administration order being granted In the event that the court makes an administration order:      a qualified Insolvency Practitioner is appointed to administer the affairs of the company the rights of creditors to enforce debts remain suspended all company documents must state that the company is in administration and the name of the Administrator any petition for winding-up is dismissed an administration order in effect creates a “breathing space” for the company – it freezes civil actions against the company and repossessions of goods from the date of the presentation of the petition. Once an administration order has been issued, it is no longer possible to commence winding-up proceedings against the company or enforce charges on the company's assets – this is one of the major advantages of an administration order.

© ABE

70

The Law Relating to Associations 1: Corporations

Winding-up (Liquidation)
Definition Winding-up or liquidation is the legal term for the termination or dissolution of a company. It is comparable, in some ways, with the death of an individual or with the bankruptcy of an insolvent person. (Note: A limited company cannot be made bankrupt – a bankruptcy applies only to individuals and persons trading as partners.) There are three types of liquidation under the Insolvency Act 1986:    members' voluntary liquidation creditors' voluntary liquidation compulsory liquidation.

Circumstances in which a company may be wound-up voluntarily In accordance with Section 84(1) of the Insolvency Act 1986, a company may be wound-up voluntarily: (a) when the period (if any) fixed for the duration of the company by the articles expires, or the event (if any) occurs, on the occurrence of which the articles provide that the company is to be dissolved, and the company in general meeting has passed a resolution requiring it to be wound-up voluntarily if the company resolves by special resolution that it be wound-up voluntarily if the company resolves by special resolution to the effect that it cannot, by reason of its liabilities, continue its business, and that it is advisable to wind-up the decision to have a voluntary liquidation may be made because the company may be no longer required to exist for one (or more) of a number of reasons, including:    It may have been formed for the purpose of undertaking a particular project which has now been completed, e.g. the Millennium Dome The owner-manager may be retiring Its original purpose (object) may have become redundant following a group restructuring.

(b) (c) (d)

The distinguishing features of a members' voluntary liquidation In accordance with Section 90 of the Insolvency Act 1986, this is where the directors are able to make a formal declaration (known as a “statutory declaration of solvency”), stating that ,after full inquiry into the company's affairs, they are of the opinion that the company will be able to pay its debts (including statutory interest) within 12 months of the commencement of the winding-up. Moreover, a company must be solvent in order to use this method of liquidation and, in the event that the amount realised from the company's assets is insufficient to pay its creditors in full, the liquidation will be converted into a creditors' voluntary liquidation: Section 96, Insolvency Act 1986. A company is placed into a members' voluntary liquidation on the passing of a special resolution by the shareholders who, at the same time, appoint a liquidator. On his appointment, all directors' powers will cease. Distinguishing features of a creditors' voluntary liquidation In accordance with Section 90 of the Insolvency Act 1986, this is where the directors are unable to make a formal declaration that the company can pay all its liabilities in full within

© ABE

The Law Relating to Associations 1: Corporations

71

12 months (including the addition of statutory interest), i.e. they are cannot make a Section 89 statutory declaration of solvency prior to the commencement of the liquidation procedure. A company uses this method of liquidation when it is insolvent – in a creditors' voluntary winding-up, a formal declaration of solvency is not possible owing to the circumstances leading to the winding-up: Section 90, Insolvency Act 1986. In this type of winding-up, the special resolution is followed by a creditors' meeting, where it is possible for a liquidation committee to be appointed: Section 98, Insolvency Act 1986. During the course of this meeting, the company's directors must place before a meeting of creditors a full statement of the company's affairs: Section 99, Insolvency Act 1986. Such meetings form no part of a members' voluntary winding up. As with a members' voluntary liquidation, the company is placed in liquidation on the passing of a special resolution by the shareholders who, at the same time, appoint a liquidator. In a creditors' voluntary liquidation, in direct contrast to a members' voluntary liquidation, both members and creditors have the right to nominate a liquidator and, in the event of dispute, subject to right of appeal to the courts, the creditors' nominee prevails. In this context, the liquidator is primarily accountable to the creditors. It is the liquidator's duty to realise the assets, investigate the company's affairs, report on the directors' conduct and distribute funds available in accordance with the Insolvency Act 1986. Compulsory liquidation A compulsory liquidation is a liquidation imposed by a court order, usually as a direct consequence of a creditor's petition, on the grounds that the company is unable to pay its debts: Section 122(1)(f). In accordance with Section 123 of the Insolvency Act 1986, a company is regarded as unable to pay its debts if, among other things:    a creditor is owed more than £750 and presents a written demand in the prescribed form (known as Statutory Demand Form 4.1) to the company and the company fails to pay, secure or agree a settlement of the debt to the creditor's reasonable satisfaction.

A compulsory winding-up petition may also be presented by any of the following parties in accordance with Section 124(1) of the Insolvency Act 1986:     the company or its directors the official receiver the Department for Business Enterprise and Regulatory Reform (formerly the Department of Trade and Industry) any contributory (a “contributory” is any person who is liable to contribute to the assets of the company in the event of it being wound-up).

In compulsory liquidations, the official receiver is automatically appointed as liquidator for the company concerned. Distinguishing features of a compulsory liquidation As with a voluntary liquidation, it is possible for a company to be placed in liquidation on the passing of a special resolution by the shareholders who, at the same time, appoint a liquidator. In accordance with Section 122(1) of the Insolvency Act 1986 both solvent and insolvent compulsory liquidations are possible. A company must be solvent in order to be wound-up on just and equitable grounds – see Ebrahimi v. Westbourne Galleries (1972).

© ABE

72

The Law Relating to Associations 1: Corporations

This method of liquidation is appropriate where:  a public limited company has been registered for a year and has failed to obtain a trading certificate under what is now Section 761 of the Companies Act 2006: Section 122(1)(b), Insolvency Act 1986 a company does not commence business within a year of it being incorporated or suspends business for a whole year: Section 122(1)(d), Insolvency Act 1986 a company is unable to pay its debts: Section 122(1)(f), Insolvency Act 1986 the court is of the opinion that it is just and equitable that the company should be wound-up: Section 122(1)(g) e.g. Ebrahimi v. Westbourne Galleries (1972).

  

The main effects of the making of a compulsory winding-up order against a company are that:      as soon as the order is made, all actions for the recovery of debt against the company are stopped the company will cease to carry on business, except where it is necessary for its beneficial winding-up (i.e. in the interests of a more favourable asset realisation) the powers of the directors will cease and are assumed by the liquidator the employees of the company are automatically made redundant the Official Receiver becomes the liquidator until an Insolvency Practitioner is appointed.

Role of the Liquidator following appointment On appointment, the liquidator takes over all the powers of the directors and he/she owes a fiduciary duty to the company. He/she must exercise reasonable care and skill when performing his/her functions. The liquidator's powers, which enable him to carry out the winding-up, are wholly set out in the Insolvency Act 1986. Among other things, a Liquidator's powers include the power to:      sell any of the company's assets raise any money for the purposes of the liquidation, by using the company's assets as security appoint an agent to do any business which the liquidator cannot do himself do all acts or execute all documents in the name of and on behalf of the company do all other things which may be necessary for the winding-up of the company and distributing its assets.

The liquidator of a company can increase the assets available for distribution to creditors by bringing an action for fraudulent trading and/or wrongful trading. Directors' liability for "wrongful trading" On the application of the liquidator, the courts can deem a director personally liable to the company's creditors for their losses incurred through the company's wrongful trading. This applies to directors or former directors of insolvent companies who, prior to the commencement of the winding-up of their company knew, or ought to have known, that there was no reasonable prospect of their company avoiding insolvent liquidation and who have failed to take all reasonable steps to prevent that from happening: Section 214, Insolvency Act 1986. The effect of this statutory provision is that a director may be made personally liable for the debts and liabilities of the insolvent company if he/she knew that it could not avoid insolvent

© ABE

The Law Relating to Associations 1: Corporations

73

liquidation and did not take all reasonable steps open to him/her to prevent its creditors from suffering greater loss than they would have suffered by an immediate cessation of the company's activities, or if a reasonable director with the knowledge available to him/her would have concluded that the company could not have avoided insolvency and would have taken more effective steps to minimise the losses to creditors. Conversely, directors may escape liability where they can show that, after the time when they knew, or ought to have known, that there was no reasonable chance of their company avoiding insolvent liquidation, that they took every step with a view to minimising the potential loss to the company's creditors. In deciding what a director ought to have done, the courts adopt a partly objective standard by considering what would have been done by a reasonably diligent person having the knowledge, skill and experience that may reasonably be expected of a person carrying out the same functions as the director in question. There is an additional subjective test which may serve to increase the individual's liability, depending on the actual knowledge, skill and experience that the director involved has. The extent of a director's personal liability to contribute to the assets of the company is determined by the reference to the losses incurred by the company from the date when the defendant ought to have realised that the company could not avoid going into insolvent liquidation: Re Produce Marketing Consortium Ltd (1989). Under the 1986 Act, the courts, on application by the Secretary of State or the Official Receiver, must disqualify a director if the company became insolvent while he/she was a director and his/her conduct as a director of that company makes him/her unfit to be involved in the management of another company. In order to ensure that directors do not have the constant threat of possible disqualification, the order itself must be applied for within two years of the liquidation, although this time limit may be extended at the court's discretion. Substantial case law has developed in recent years as a result of the provisions for fraudulent trading and wrongful trading contained in Companies legislation. Fraudulent trading Fraudulent trading occurs where the business of the company is carried on with intent to defraud creditors or for any other fraudulent purpose. It is, therefore, necessary to establish dishonest intent in order to obtain a successful conviction. This will be inferred where a company carries on business and continues to incur liabilities where there is no reasonable prospect of those liabilities being met: Re William C Leitch Bros. (1932). Other examples of "fraudulent" trading under Section 213 of the Insolvency Act 1986 include paying creditors out of order on the preferential list of creditors, especially where a party "knowingly" pays one party of creditors off in the knowledge that this will result in creditors higher up the preferential list losing out financially. To this end, a creditor who, knowing of the circumstances, accepts money fraudulently obtained by the company may be liable to repay it, even if he took no part in the fraudulent trading itself: Re Gerald Cooper Chemicals Ltd (1978). In general, it may be properly inferred that there is an intent to defraud creditors if a company carries on business and incurs debts when, to the knowledge of the directors, there is no reasonable prospect of the company being able to pay them. It is not necessary to show that there was no prospect of the creditors ever being paid. It is enough that there is no reason for thinking that they will be paid as the debts fall due or shortly thereafter: In the case of R v. Grantham (1984), two of the company's directors who ordered a consignment of potatoes on one month's credit, at a time when they knew payment would not be forthcoming, were found guilty of fraudulent trading.

© ABE

74

The Law Relating to Associations 1: Corporations

E. UNINCORPORATED ASSOCIATIONS
We must now consider the rather unusual position of groups of persons who are associated in some common interest but have not become incorporated and, therefore, have no corporate entity or legal personality. Within this general category are numerous examples of associations ranging from small social and bridge clubs; cultural societies, sports clubs and religious bodies (other than the Church of England) to large, powerful trade unions. Also included in this category are partnerships, although they are the subject of the next chapter.

Legal Position
Since the law does not treat such associations as separate entities, with a legal personality of their own, it is necessary to clarify their position in certain respects, among which the following deserve particular notice.  If property is held by a large number of persons who form an unincorporated association, it is usual to vest the property in trustees and to set out the rules and regulations of the association in a trust deed. An unincorporated association cannot enter into a contract. A contract made on its behalf is regarded by the law as the contract of the individual members who actually made, or gave, authority for the particular contract – such as the managing committee. Any torts committed in connection with any of the activities of the association are treated as the torts of the individual members responsible. For example, the committee of a football club which commissioned the repair of a stand was held responsible when a member of the public was injured, on the collapse of the stand, owing to bad workmanship. The members as a whole are liable for the debts of the association if the contract was made by an authorised agent. The members may delegate certain powers to a committee, sometimes including the powers of expulsion. If a court considers that the exercise of such power is contrary to public policy, it may overrule the committee's decision.

 

© ABE

75

Chapter 4 The Law Relating to Associations 2: Partnerships
Contents
A. Partnerships Definition Differences between a Registered Company and a Partnership The Duties of Partnership The Rights of Partnership Relationship of Partners to Third Parties Termination of Partnership Bankruptcy of Partnership Liability of New and Retiring Partners Rights of Partners on Dissolution

Page
76 76 77 80 81 83 84 86 86 87

B.

Limited Liability Partnerships Definition Incorporation and Agreement “Designated Members” Differences between an LLP, a Partnership and a Registered Company Financial Regulation Duties and Rights of Members Termination of Membership

87 87 87 88 88 89 90 91

© ABE

76

The Law Relating to Associations 2: Partnerships

A. PARTNERSHIPS
Definition
A partnership is defined in Section 1(1) of the Partnership Act 1890 as: “the relation which subsists between persons carrying on business in common with a view to a profit” Under the 1890 Act, “business” includes every trade, occupation or profession. Although “business” is a broad term, it does imply the carrying on of some form of commercial activity. It is for the court, looking at the facts, to resolve any doubts about whether a “business” is being conducted. A partnership is, thus, based on a contract between its members and since it can be created informally and dissolved informally, it differs completely from a corporation. See Khan v. Miah (2001) and Young v. Zahid (2006). You will remember that a corporation must be created either by charter or by statute and once formed, it has a continuous legal personality. Partnership, on the other hand, can be formed by means of a deed, i.e. an agreement under seal signed by the persons who agree to become partners, or by means of a simple agreement in writing, or even by an agreement made orally or simply implied from the actions of the persons concerned. What constitutes a “partnership” under the Partnership Act 1890? Guidance on this is provided by Section 2 which states that where a person receives a share in the profits of a “business”, this will serve as prima facie evidence that he/she is a partner of a firm, although the presumption can of course be shifted by other conflicting evidence. A partnership requires the participation of at least two persons; they can be either natural or legal persons. There also must be a “profit motive” underlying the “business”. It will be a question of fact whether the partners aim to make a profit. The parties must intend to make a profit as a consequence of their dealings.  Sharing Gross Returns: Section 2(2): The sharing of gross returns does not of itself create a partnership, whether or not the persons sharing gross returns also have a common interest in any property from which the returns are derived – see: Cox v. Coulson (1916). Sharing Net Profits: Section 2(3): If a person receives a share of the net profits of a business, this is prima facie evidence that he/she is a partner in the business, but it does not of itself make him/her a partner in the business. In particular: (i) (ii) (iii) A person will not be a partner just because he/she receives repayment of a debt in instalments which vary according to the profits of the business An employee will not be regarded as a partner because he/she is paid, or partly paid by a share of the profits of the business A deceased partner's widow and/or child will not be regarded as a partner just because they receive, as an annuity, a share of the profits of the business in which the deceased was a partner A person who has loaned money to a business under an agreement, which provides that the interest rate will vary according to the profits, or repayments will be made as a percentage of the profits, will not be regarded as a partner provided the loan agreement is in writing and signed by all the parties

(iv)

© ABE

The Law Relating to Associations 2: Partnerships

77

(v)

A person who has sold the goodwill of a business will not be regarded as a partner just because he receives as payment a share of the profits of the business – see: Pratt v. Strick (1932).

In deciding whether an arrangement is a partnership, the courts look at the substance of the agreement and not what the parties have called it. If the arrangement appears objectively to be a partnership, the law will treat it as a partnership.

Differences between a Registered Company and a Partnership
The following important differences exist between a registered company and a partnership. (a) The method of formation All companies must be registered in accordance with the procedure laid down in the Companies Act 2006. “Any two or more persons associated for a lawful purpose may, by subscribing their names to a memorandum of association and otherwise complying with the requirements of this Act in respect of registration, form an incorporated company, with or without limited liability.” In relation to the formation of an ordinary partnership, there are no formal registration requirements which must be followed under the Partnership Act 1890. Although no formalities are required for a partnership to be formed in direct contrast to registered companies, a partnership deed is often drawn up to cover the rights and responsibilities of the partners during the term of the partnership and also on its dissolution. If there is no deed of partnership, the Partnership Act 1890 governs the legal relations between the partners. (b) The need for a written constitution In accordance with the Companies Act 2006, a company must have a written constitution, i.e. a memorandum of association and articles of association. A partnership agreement need not be in writing, although in the vast majority of cases, it will be evidenced in writing. (c) Separate corporate personality and its legal implications Following incorporation, a company is a body corporate with a separate corporate personality and, among other things, can be sued in its own name as a separate legal party from its members, in the event of a breach of contract by it. This legal principle was established by the case of Salomon v. Salomon & Co. Ltd (1897). On the registration of a company's memorandum of association, the Registrar of Companies issues a company with a certificate of incorporation, identifying clearly to outsiders that the company is a corporate body and that the liability of its members is limited. From the date on the certificate of incorporation, the subscribers of the memorandum, together with such other persons as may, from time to time, become members of the company (link to perpetual succession), become a body corporate by the name contained in the memorandum. A partnership is not a corporate body and does not have a separate corporate personality, i.e. the members and the firm are for legal purposes the same person and can be sued directly, e.g. in the event of a breach of contract; this is one of the major differences between a firm and a company. In the event of a partnership business failing and the assets of the firm being insufficient to pay creditor's debts, the personal assets of the firm's partners can be seized, which could lead to a partner being declared bankrupt.

© ABE

78

The Law Relating to Associations 2: Partnerships

(d)

Agency The concept of agency is central to the understanding of company commercial transactions. In a company, mere membership does not of itself invest the shareholder with the power to act as an agent for and on behalf of the company. In companies, directors act as agents, deriving their authority to do so from the company's articles of association; the principal in the agency relationship being the company's constitution. Agency powers are contained in the company's articles of association and these powers are the principal agency relationship source, i.e. they state whose acts will be regarded as those of the company. The articles will normally grant full agency powers to the board of directors, who are required to exercise this power bona fide in the interests of the company, a fiduciary obligation. They are also under a duty to exercise care and skill when entering into contracts on behalf of the company. The standard of care and skill they are required to demonstrate is the general knowledge, skill and experience that may reasonably be expected of a person carrying out the same functions as are carried out by that director in relation to the company. In ordinary partnerships, all partners are agents of the firm in the absence of an agreement to the contrary. The Partnership Act 1890 s.5 defines the scope of an agent's apparent authority, in relation to the power of a partner to bind his firm. "Every partner is an agent of the firm and his other partners for the purpose of the business of the partnership; and the acts of every partner who does any act for carrying on in the usual way business of the kind carried on by the firm of which he is a member bind the firm and his partners, unless the partner so acting has in fact no authority to act for the firm in the particular matter, and the person with whom he is dealing either knows that he has no authority, or does not know or believe him to be a partner. The scope of a partner's authority to bind his firm in contractual agreements is a matter which is usually regulated by a partnership agreement, i.e. not all partners may have apparent authority to act as agents of their firm.”

(e)

Limitation of liability of members In a company limited by shares, the financial liabilities of the business, such as trading debts, end when members have fully paid for their shares together with any share premium. Essentially, all the shareholders of a company will have limited liability in the absence of grounds justifying the drawing aside of the corporate veil by the courts or the judiciary. The liability of partners for the debts of the firm on dissolution is unlimited, in the absence of an agreement to the contrary. If the assets of the firm are insufficient to meet the liability, the creditor can look to the personal property of the individual partners. To this end, all the partners are said to be “jointly and severally liable” with the firm (Section 9, Partnership Act 1890), which means that each partner is responsible for the whole of the firm's debts; a situation which may result in bankruptcy proceedings being brought against the firm's partners.

(f)

Management structure In a company there is a separation of equity ownership and control. A company is managed by those empowered to do so under its articles of association, its board of directors. The means available to company members, to require directors to account for their actions are, therefore, of critical importance and company law in the interests of democracy provides that certain decisions, such as alterations to the articles or memorandum, can only legitimately be carried out in general meeting of the company. In a partnership there is no separation of ownership of control, in the absence of an agreement to the contrary. Under Section 24 of the Partnership Act 1890, all partners

© ABE

The Law Relating to Associations 2: Partnerships

79

have the right to participate in the management of their firm and this statutory provision will operate in the absence of an agreement to the contrary. Denial of this right of a partner to participate in the management of the firm would be grounds for dissolution on “just and equitable” grounds in accordance with Section 35 of the Partnership Act 1890. The relationship between partners of a firm is uberrimae fidei and such denial amounts to a breach of mutual trust and confidence. (g) Membership A company continues to exist even when its members change or die, because of perpetual succession. Company members can enter and leave a company fairly easily, just by buying and selling their shares. One advantage of this is that the deeds to company property do not need to be altered when the membership of the company changes, unlike the situation which exists in partnerships. The shares in a company are normally freely transferable in accordance with a company's articles of association. In the absence of a partnership agreement to the contrary, the firm will be dissolved when one of its partners leaves or dies, i.e. a partnership does not have perpetual succession. Moreover, a new partner cannot join the partnership without the consent of all the existing partners. This highlights the nature of a partnership as a joint venture based on utmost trust; a partnership relationship is uberrimae fidei. In the absence of an agreement to the contrary, the shares in a partnership are not freely transferable. (h) Borrowing A company can raise loan capital by issuing debentures (debt secured by means of a floating or fixed charge on the company's assets). A partnership cannot issue debentures secured on the firm’s assets. (i) Formalities and public inspection A company must file, with the Registrar of Companies, a wealth of detail about itself on a regular basis. Moreover, on the payment of a nominal fee, all of this information is open for public inspection. Thus its membership, its annual accounts and details of the property it has charged are amongst the long list of details with which the Registrar must be provided; all documents on receipt becoming public documents. Thus there is a considerable internal administrative burden associated with the preparation of such documentation in line with the requirements of Companies legislation. Furthermore, financial penalties can be exacted against companies in default – persistent default can lead to directors incurring criminal liability – the consequences of which are imprisonment and/or disqualification of a company director in accordance with the Company Directors Disqualification Act 1986. A firm, by direct contrast to a company, can maintain complete secrecy over its affairs (other than providing details of its proprietors where the Business Names Act 1985 applies) – one of the main advantages. A partnership must register under the Business Names Act 1985 (now Part 41 of the Companies Act 2006), any name it uses to trade under which does not consist of the surnames of all the partners, e.g. Smith & Co. (j) Termination A company cannot be wound-up without statutory intervention. Since a company has been created by statutory intervention, namely by the Companies Act 2006, its termination is also regulated by statutory intervention, namely by the Insolvency Act 1986. A company will not normally be required to be wound-up on the grounds that one of its members has died or been declared bankrupt. A partnership may be dissolved without statutory intervention. For example, in the absence of an agreement to the contrary, a partnership will be dissolved on the death or bankruptcy of a partner.

© ABE

80

The Law Relating to Associations 2: Partnerships

(k)

The Articles of Partnership As a general rule, the partnership comes into being by means of an agreement in writing, the document being known as the Articles of Partnership. This will be signed by all the partners and contain all the conditions, etc. under which the partners intend to carry out their business. The Articles of Partnership usually include clauses dealing with the nature of the business; its capital and property and the respective capitals of each partner, the method of sharing profits and losses and the rules as to interest on capital and drawings. Provision is also often made for the method of determining the value of goodwill on retirement or death, and of computing the amount payable to an outgoing or deceased partner. The partners are bound by the Articles and if any point is not addressed within them, the Partnership Act applies. The facts in Greenaway v. Greenaway (1939) were that, under the Articles of Partnership, a partner was liable to be expelled if he acted in a manner contrary to the good faith required of partners and prejudicial to the firm's general interest. For a long time there was considerable acrimony between two of the partners, which eventually came to a head when one assaulted the other. It was held that his expulsion was justified, since his assault was an act of disloyalty and constituted conduct which was clearly contrary to the good faith required of partners.

(l)

Registration – the firm name A partnership is not subject to registration, unless it is a limited partnership. Legally, the firm's name is merely a convenient way of alluding to existing partners. An authority to lend to a firm does not authorise a loan to that firm when the partners have changed, but copyright can be registered in a firm's name. The firm's name will be protected. Partners can sue and be sued in a firm's name, although they must appear in person.

The Duties of Partnership
The fiduciary nature of a partnership means that each partner has a duty to act in good faith, in the best interests of the firm. See Conlon v. Simms (2006). In addition to this general fiduciary duty, the Partnership Act 1890 lays down certain specific duties. (a) The duty to disclose “Partners are bound to render true accounts and full information of all things affecting the partnership to any partner or his legal representatives.” Section 28 This statutory duty is strict and applies to “all things affecting the partnership”: Law v. Law (1905). In this case the two Laws, William and James, were partners in a woollen manufacturers' business in Halifax, West Yorkshire. William lived in London and took little part in the running of the business. James bought William's share of the firm for £21,000. Later William discovered the business was worth considerably more and that various assets unknown to him had not been disclosed. The Court of Appeal held that, in principle, this would allow William to set the contract aside. Cozens-Hardy LJ explained this decision in the following terms: “Now it is clear law that, in a transaction between co-partners for the sale by one to the other of a share in the partnership business, there is a duty resting on the purchaser who knows, and is aware that he knows, more about the partnership accounts than the vendor, to put the vendor in possession of all the material facts with reference to the partnership assets, and not to conceal what he knows.”

© ABE

The Law Relating to Associations 2: Partnerships

81

(b)

The duty to account “Every partner must account to the firm for any benefit derived by him without the consent of the other partners from any transaction concerning the partnership, or from any use by him of the partnership property name or business connection.” Section 29. This duty of partners to account for private profits to the firm is very wide – “any use by him of the partnership property name or business connection”, for example, can extend beyond the use of the partnership assets or exploitation of a partnership transaction. To this end, the clearest example of liability under Section 29 is the receipt of secret profit, i.e. where one partner makes a personal profit out of acting on behalf of the partnership: Bentley v. Craven (1853). In this case Bentley, Craven and two others were partners in a sugar refinery at Southampton. Craven was the firm's buyer and as such he was able to buy sugar at a discount on the market price. Having bought the sugar at the discounted price he than sold it to the firm at full market price. The other partners only later discovered that he had been buying and selling the sugar to them on his own behalf. The firm successfully claimed his profits from these dealings. It would have made no difference if the other partners could not have obtained a discount so that they, in fact, suffered no loss, since they would have had to pay the full market price in any case.

(c)

The duty not to compete “If a partner, without the consent of the other partners, carries on any business of the same nature as and competing with that of the firm, he must account for and pay over to firm all profits made by him in that business.” Section 30. The central issue in relation to Section 30 of the Partnership Act 1890 is whether the business is in competition with that of the firm. If it is, then the liability to account is established and there is no need to show any use of partnership assets, etc. in that business, as with Section 29 (regarding accountability of partners for private profits). Whether or not there is a competitive business is a question of fact. By analogy with the Law of Trusts, it may depend upon how specialist the business is, e.g. a Yacht or Classic Car Company may require more protection than a firm of newsagents. If a partner sets up or becomes involved in any competing business without the consent of the other partners, he must pay to the firm any profits he has made in the competing business: Pillans Brothers v. Pillans (1908).

The Rights of Partnership
Subject to an express provision to the contrary in the partnership agreement, Section 24 of the Partnership Act 1890 sets out the following statutory rights for the partners of a firm. (a) To share equally in the capital, profits and losses of the business: Section 24(1) The profits belong to the partners but so do the debts/losses. All the partners, in the absence of an agreement to the contrary, are “jointly and severally liable” with the firm by Section 9 of the Partnership Act 1890, which means that each partner is responsible for the whole of the firm's debts. The personal property of partners can be seized by creditors to pay for the partnership debts if the business fails. A creditor could sue the firm and all the partners together, or sue them in turn until the debt is paid. The estate of a deceased partner can be made liable for a debt incurred while the deceased was a partner: Bagel v. Miller (1903). Dormant partners are also liable equally with active ones. (b) To be indemnified by the firm for any liabilities incurred or payments made in the ordinary course of business: Section 24(2) If one partner does settle a partnership debt, either willingly or unwillingly, because he is the one who has been sued (remember all the partners of a firm are jointly and

© ABE

82

The Law Relating to Associations 2: Partnerships

severally liable for the debts of the firm in the absence of an express agreement to the contrary by virtue of Section 24(1)), he/she has a right to claim an indemnity from his/her fellow partners under Section 24(2) of the 1890 Act. (c) To be paid interest on any additional capital contribution at the rate of 5% per annum: Section 24(3) The 1890 Act by virtue of Section 24(3) makes a distinction between a contribution of capital by a partner on formation of the partnership and any additional contribution which he may agree to make. On this additional contribution he is entitled to 5% interest per annum from the date on which he made the additional contribution. (d) To participate in the management of the business: Section 24(5) The continuation of a partnership depends on it not only being a joint venture but on the existence of mutual trust and confidence amongst the partners inter se. A right to management participation is a necessary consequence of unlimited liability for the debts of the firm. Denying a partner the right to participate in the management of the firm in the absence of an agreement to the contrary is a ground for partnership dissolution on “just and equitable” grounds in accordance with Section 35(f) of the Partnership Act 1890. It should be noted that a limited partner has no rights of management and that, if he interferes in the running of the business, he will lose his shield of limited liability. (e) To prevent the admission of a new partner or prevent any change in the nature of the partnership business: Sections 24(7) and (8) respectively The successful operation of partnerships as business organisations depends on the sustainment of mutual trust between the partners inter se. It is not surprising, therefore, that the 1890 Act does not regard this as a matter for the majority to decide, Section 24(7) stating that: “No person may be introduced as a partner without the consent of all existing partners” (subject to an agreement to the contrary in the firm's partnership agreement). In connection with changes in the nature of the firm's business, Section 24(8) states that: “Any difference arising as to ordinary matters connected with the partnership business may be decided by a majority of the partners, but no change may be made in the nature of the partnership business without the consent of all existing partners.” Based on the wording of Section 24(8), there is clearly a distinction being made between day-to-day business decisions and the fundamental nature of the business itself. Unlike a company, therefore, a partnership cannot alter its object(s) except by unanimous consent (only 75% compliance required in companies), subject, as ever, to any contrary intention in the partnership agreement of the firm. The fact that any decision about changing the nature of the business must be unanimous illustrates that a partnership relationship is uberrimae fidei (“of utmost good faith”). (f) To have access to the firm's books: Section 24(9) This unfettered right of a partner to inspect the books of the firm is a valuable one and again flows from the nature of a partnership i.e. as a joint venture based on mutual trust and confidence. Partners as agents In the absence of a provision to the contrary in a firm's partnership agreement, all partners have apparent authority to act as agents for the firm and to bind it by their acts: Section 5, Partnership Act 1890: “Every partner is an agent of the firm and his other partners for the purpose of the business of the partnership; and the acts of every partner who does

© ABE

The Law Relating to Associations 2: Partnerships

83

any act for carrying on in the usual way business of the kind carried on by the firm of which he is a member bind the firm and his partners, unless the partner so acting has in fact no authority to act for the firm in the particular matter, and the person with whom he is dealing either knows that he has no authority, or does not know or believe him to be a partner.” The reference in Section 5 to carrying on business “in the usual way” raises such questions as does one partner have the implied authority to borrow money; insure the premises; convey land; give guarantees; sack employees, etc. in the course of the firm's business. The agency relationship in partnerships:    the firm (partners collectively) = the principal partners (individually) = agents implied authority = entering into transactions usual for the kind of business.

So long as the partner is acting within the authority implied by Section 5, he/she will bind the firm, whatever the partners have privately agreed, unless the third party:   knows of the restriction on the partner's authority or does not know that the person he/she is dealing with is a partner, i.e. believes he/she is dealing with an individual.

Relationship of Partners to Third Parties
As third parties are not permitted to inspect the Articles of Partnership, the court does not presume that third parties know the contents of the Articles. No matter what the Articles of Partnership may state with regard to the relation of partners to one another, an act performed by a partner in the ordinary course of business will bind the firm and all the other partners. This is known as joint and several liability. A distinction is sometimes drawn between the express (or actual) and implied (or ostensible) authority of a partner: see Bank of Scotland v. Butcher (2005). Express or actual authority is that conferred upon a partner by the terms of the Articles of Partnership. Implied or ostensible authority is vested in a partner by virtue of his/her status as a partner, and is determined entirely by what is necessary for the usual scope of the firm's business. Whether the act of a partner is necessary for the usual scope of the business is a question of fact to be determined by the nature of the firm's business and by the practice of the persons engaged in it. It is usual for partnership articles to contain a clause imposing some agreed limitations on the authority of certain or all partners, e.g. forbidding junior partners to negotiate loans on behalf of the firm, but remember that such express restrictions have no effect on outsiders dealing with the firm, unless the outsider knows, or should know, of the restriction. Thus, in Mercantile Credit Co. Ltd v. Garrod (1962), P and G were partners in a car repair business and garage. The Articles forbade any buying and selling of cars by way of trade. The business was run by P, and G was a "sleeping" partner with no share in management. P sold a car to M by way of trade, in defiance of the Articles and without G's knowledge. M later found that the firm did not own the car, and claimed compensation from G. It was held that G was liable, since M was unaware of the restriction in the Articles and P had appeared to be acting within the usual scope of a garage business. A partner has no implied authority to bind the firm by deed (Steiglitz v. Egginton (1815)) or to give a guarantee in the name of the firm (Brettel v. Williams (1849)). If a partner, without special authority, gives a guarantee or signs a bill of exchange, makes or endorses a promissory note, borrows money, or pledges goods in the name of the firm, then the firm will not be bound, as these acts are not in the usual course of the business of the firm. With a

© ABE

84

The Law Relating to Associations 2: Partnerships

trading firm, however, any partner may bind the firm on bills of exchange, promissory notes, or on a contract to borrow money on behalf of the firm. (Remember that this applies to trading firms only, i.e. firms the business of which is the buying and selling of goods.) In Higgins v. Beauchamp (1914), Beauchamp and X carried on a partnership business as owners and managers of cinemas. The Articles of Partnership forbade the partners to borrow money on the firm's behalf. X borrowed money from Higgins on the firm's behalf. The firm was held not to be liable, as it was not a trading firm; X had, therefore, no implied authority to borrow on the firm's behalf.

Termination of Partnership
A partnership can be dissolved without a court order in the following circumstances: (a) On the expiry of a fixed term/on the completion of a specific venture: Section 32(a) and (b) Subject to any agreement to the contrary between the partners, a partnership is dissolved in accordance with Section 35(a) “if entered into for a fixed term, by the expiration of that term”. It is important to note here that a partnership for a fixed term includes any partnership with a time limit, however vague or uncertain and that a partnership for an “undefined time” in Section 35(c) must be read in the light of the wording of Section 35(a) as including only totally open-ended agreements. Moreover, subject to any agreement to the contrary between the partners, a partnership is dissolved in accordance with Section 35(b) “if entered into for a single adventure or undertaking, by the termination of the adventure or undertaking”. (b) On the giving of notice: Section 32(c) Subject to any agreement to the contrary between the partners, a partnership is dissolved “if entered into for an undefined time, by any party giving notice to the other or others of his intention to dissolve the partnership”. A partnership for an “undefined time” in Section 35(c) must be read in the light of the wording of Section 35(a) as including only totally open-ended agreements. (c) On the death or bankruptcy of any of the partners: Section 33 Subject to any agreement to the contrary between the partners, a partnership will dissolve upon the death or bankruptcy of any of the partners. (Contrast with the situation in registered companies, i.e. perpetual succession. (d) On the occurrence of events making the object of the partnership illegal: Section 34 In accordance with Section 34 of the 1890 Act “a partnership is in every case dissolved by the happening of any event which makes it unlawful for the business of a firm to be carried on or for the members of the firm to carry it on in partnership”. For example, if prohibition were introduced in the U.K., all partnerships whose object was to sell alcohol would be operating illegal and would be dissolved in accordance with Section 34. A partnership is always dissolved by any event which makes it unlawful either for the business of the firm to be carried on or for the members of the firm to carry on in business together: R v. Kupfer (1915). Even if there is nothing (either express or implied) in a firm's partnership agreement, one partner may apply to the court for a dissolution order under one of six heads set out in Section 35 of the Partnership Act 1890, as described below.

© ABE

The Law Relating to Associations 2: Partnerships

85

(a)

If a partner is suffering from a mental disorder: Section 35(a) The procedure now is that if a partner becomes a patient under the Mental Health Act 1983 (as amended by the Mental Capacity Act 2005), his/her receiver or the other partners may apply to the court for a dissolution which can be given if the person is incapable of managing his/her property and affairs.

(b)

If a partner suffers some other permanent incapacity and is permanently incapable of carrying out the partnership agreement: Section 35(b) For example, if he becomes permanently disabled as a result of an accident. Section 35(b) refers to a partner becoming “in any way permanently incapable of performing his part of the partnership contract”. Thus the analogy is with “insanity”. It is, of course, a question of fact in each case as to whether this situation has arisen. It will also depend on the duties of the partner concerned and it could hardly apply to a sleeping or limited partner of the firm. Moreover, for this section to operate successfully, the incapacity must be permanent.

(c)

If a partner has been found guilty of misconduct in his business or private life which, in the opinion of the court, is likely to prejudicially affect the carrying on of the business: Section 35(c) For example, if he is convicted of theft. However, in order to operate successfully, Section 35(c) requires proof of conduct by one partner, which the court, having regard to the nature of the business, regards as “calculated to prejudicially affect the carrying on of the business”. This heading includes conduct not directly connected with the business and there is no need to prove actual loss or public knowledge; the test is objective, i.e. would a client, knowing of this conduct, have moved away from dealing with the business.

(d)

If a partner persistently breaches the partnership agreement or makes it impractical for the other partners to carry on business with him: Section 35(d) However, in order to operate successfully, Section 35(d) requires evidence that the offending partner wilfully or persistently commits a breach of the partnership agreement, or otherwise conducts himself in matters relating to the partnership business in such a way that it is not reasonably practicable for the other partner or partners to carry on the business in partnership with him. The problem for the courts in such cases is to avoid this draconian solution for petty internal squabbles, while at the same time seeking to end matters if the other partners in the firm genuinely cannot continue in partnership with the partner concerned, as demonstrated by the case of Cheeseman v. Price (1865). In this case, the offending partner had failed to enter small sums of money received, the firm's customers into the accounts in accordance with the firm's partnership agreement. This had happened 17 times and was held to be sufficient to tip the scales in favour of dissolution.

(e)

If the business is being carried on at a loss: Section 35(e) Straightforward court order for dissolution will be granted “when the business can only be carried on at a loss”.

(f)

If it is just and equitable to do so: Section 35(f) This has been the subject of many successful cases in company law because it has a direct counterpart in the form of Section 122(1)(g) of the Insolvency Act 1986 and has been applied by analogy to justify the winding-up of a small limited company or “quasipartnership” – see Ebrahimi v. Westbourne Galleries Ltd (1973). Examples of circumstances where it would be just and equitable to dissolve a partnership include:   refusal to meet on matters of business continued internal quarrelling

© ABE

86

The Law Relating to Associations 2: Partnerships

the existence of a state of internal animosity that precludes all reasonable hope of a reconciliation and friendly co-operation, i.e. a breakdown in trust and confidence where one of the partners has been wrongfully excluded from participating in the management of the business in contravention of Section 24(5) of the 1890 Act.

Bankruptcy of Partnership
Since the liability of a general partner extends to the whole of the debts of the partnership, or he/she is liable jointly with the other partners, a creditor in the bankruptcy of a partnership can pursue one of two courses.  Proceed against the partners jointly, i.e. in the name of the firm. If he/she obtains judgment against the firm, the debt must be satisfied out of the assets of the firm. However, if the assets of the firm are insufficient, then the creditor can look to the private assets of the partners in order to satisfy his/her debt. Proceed against any individual partner. If he/she obtains judgment against a certain partner and this judgment cannot be satisfied out of the private property of that partner, then the creditor cannot proceed against the remaining partners.

The creditor must pursue one course or the other. If he pursues the second course described above, the partner against whom the judgment is obtained will be liable to pay the full amount. However, he/she has a right to call upon the other partners to contribute the shares that they should bear.

Liability of New and Retiring Partners
Pay particular attention to the following points dealing with the liability of partners. (a) Incoming partner Unless a new partner makes a special agreement to the effect that he/she will take over the liability in respect of the firm's debts at the time of his/her joining the firm, he/she cannot be held liable on such debts. In the absence of such an agreement, the new partner can be held liable only in respect of debts incurred after he/she became a partner in the firm. (b) Retiring partner A retiring partner can be held liable only in respect of debts incurred before his/her retirement, provided due notice of retirement is given. This notice takes the form of an advertisement in the London Gazette, which is sufficient notice to those persons who have had no dealings with the firm, and a letter or circular to those persons who have previously dealt with the firm. In other words, if this notice is not given, a partner is liable for any debts incurred by the firm after his/her retirement. An exception to this occurs where, by a special agreement, a partner arranges to be liable for debts incurred by the firm after his/her retirement. Note also that an agreement may be made between existing creditors and the firm, whereby the former agree to discharge a retiring partner from all liability. However, there must be valuable consideration to support such an agreement. The mere agreement of the remaining partners to be held liable for all debts is not sufficient for this purpose, as they are already liable. In Tower Cabinet Co. Ltd v. Ingram (1949), C and I dissolved their partnership but no notice was given or advertisement published in the Gazette. After this dissolution, C ordered goods from T, using the firm's old notepaper which showed I as a partner. T did not know I was a partner before the dissolution. It was held that I was not liable to T.

© ABE

The Law Relating to Associations 2: Partnerships

87

Rights of Partners on Dissolution
The rights of partners on dissolution are usually contained in the Articles of Partnership. Where they are not provided for in this way, the following are the more important provisions which apply:    the assets or property of the firm must be applied in paying off the creditors of the firm the assets remaining are to be applied in paying to the partners the amounts which are due to them as partners the assets of the partnership, together with any amounts contributed by partners to make up a deficiency, are to be distributed as follows: (i) (ii) (iii) (iv) in paying off all creditors of the firm who are not partners in paying off rateably any loans made by partners to the firm, such loans being distinguished from capital and carrying 5% interest per annum in paying rateably to the partners the amounts due to them in respect of capital if any surplus remains, it is to be shared among the partners in the proportions in which they share profits.

Where the assets are sufficient to pay the creditors and any loans made to the firm by the partners, but insufficient to repay each partner his/her full capital, the rule in Garner v. Murray (1904) provides that the deficiency in capital is to be borne by the partners in the ratio in which the profits are divisible. In this case, G, M and W were partners on the terms that profits should be divided equally. The capital was contributed unequally, G contributing more than M. On dissolution, the assets, though sufficient to pay the creditors, were insufficient to repay the capital in full. It was held that the true principle of division was for each partner to be treated as liable to contribute a third of the deficiency, and then to apply the assets in paying to each partner rateably his share of capital.

B. LIMITED LIABILITY PARTNERSHIPS
Definition
Ordinary Limited Partnerships may be found under the Limited Partnership Act 1907, to be sharply distinguished from the Limited Liability Partnership Act 2000 (as supported by the Limited Liability Partnerships Regulation 2001), so as to introduce a new hybrid type of legal vehicle. However, although classed as a hybrid, Limited Liability Partnerships (LLPs) bear a much closer resemblance to a company than a partnership, and to that extent the title of the Act is perhaps something of a misnomer. The Act introduces a radical change in both a firm’s liability and that of its partners, its main purpose being to create a form of legal entity known as a LLP, which combines the organisational flexibility and tax status of a partnership with limited liability for its members. A LLP is a separate legal entity with unlimited capacity; this means that a LLP can do anything that a natural person could do, having the ability, for example, to hold property, enter into contracts, employ people and continue in existence despite any change in its membership. While, in law, a LLP is deemed separate from its members, such members may, however, be liable to contribute to its assets if it is wound up, the extent of that potential liability that being as specified under the Act’s regulations (S.1 of the 2000 Act).

Incorporation and Agreement
Section 2 of the Act deals with incorporation. It requires that, where two or more persons associate for carrying on a lawful business with a view to profit, they must have subscribed

© ABE

88

The Law Relating to Associations 2: Partnerships

their names to an Incorporation Document, which must be delivered to the Registrar of Companies, together with a statement that all requirements have been complied with. In law, "person" includes individuals and companies. However, LLPs are not available for all activities, such as non-profit making activities. Hence, there are precise provisions for the registration of a LLP, similar in many respects to those needed to create a new Limited Company. In particular, this should contain the situation of the Registered Office and its members upon incorporation, and whether some or all are to be its designated members (see below). The first members of a Limited Liability Partnership are those who signed the incorporation document. Subsequent to incorporation, any person may become a member of a LLP by agreement with the existing members. There is no legal requirement for the members of an LLP to enter into a written agreement in order to regulate relations between the members themselves and between the members and the LLP. It is, however, desirable to have such an agreement to avoid any dispute. It should also be noted that the default provisions of the Act and regulations do not cover all the likely issues that need to be laid down at the outset, such as the detailed management, decisionmaking and remuneration arrangements, the level of authority given to individual members, financing arrangements and the details of how members' entitlements are fixed if they leave the LLP, or if the LLP is liquidated. Thus, it would be desirable for a LLP agreement to contain a provision that it can be altered by a resolution passed by a specified majority of members; in the absence of such a provision, any alterations will need approval by all members. The liability of members on liquidation should also be covered in the agreement either by stating in clear terms what the maximum liability of each member on liquidation is to be, or by stating expressly that a member is to have no such liability. In the absence of an agreement, regulations made under S.14 of the Act (which deals with Dissolution/Insolvency) would apply, limiting the obligation of partners to contribute on insolvency to the amount they agreed to contribute.

“Designated Members”
The Act provides for some or all of the members of a Limited Liability Partnership to be "designated members". In general terms, the role of such members is to perform the administrative and filing duties of the LLP. However, some provisions of the Companies Act 2006 and the Insolvency Act 1986, as applied by the Regulations, place on them tasks that go beyond the mere administrative, and in the performance of which they would be representing all the members of the LLP, such as the signing of the Partnership's accounts; various functions under the Insolvency Act 1986, including: giving a Statutory Declaration of Solvency preceding a members' voluntary liquidation, and making a statement of affairs in a creditor's voluntary liquidation. A LLP must have at least two designated members, and if no member or only one has been specifically designated, then all members are designated members.

Differences between an LLP, a Partnership and a Registered Company
As stated, the LLP's existence as a separate legal entity makes it more closely akin to a company than to a partnership (except insofar as internal relations are governed by agreement between the members). The Act therefore draws on the principles embodied in legislation pertaining to companies. Being a body corporate, Partnership Law will not (generally) apply to a LLP. However, certain elements of Partnership Law may be applied to LLPs by regulations; such regulations will apply in the absence of agreement as to any matter concerning the mutual obligations of LLP members, or LLP members and the LLP itself.

© ABE

The Law Relating to Associations 2: Partnerships

89

The main difference is that a Limited Liability Partnership has the organisational flexibility of a partnership and is taxed as a partnership. In other respects, it is very similar to a company. For example, a LLP has members, but it does not have any directors or shareholders. It does not have any share capital – this means that it will not be subject to the Company Law rules that govern the maintenance of such capital. In a Limited Liability Partnership there is no need for any board meetings or general meetings; there is no decision-making by way of resolutions. Hence, a LLP will be of interest to businesses where the members wish to have limited liability, but where all the members wish to be able to participate in the membership of the firm, and where the less formal partnership structure is preferred to the more formal company structure (with transferable shares). Its structure is, therefore, particularly appropriate for professional practices wishing to limit members' liability. A limited liability partnership does not have a Memorandum of Association or any Articles of Association. As the members have limited liability, the protection of those dealing with a limited liability partnership requires that the Partnership maintains accounting records, prepares and delivers audited annual accounts to the Registrar of Companies, and submits an Annual Return in a manner similar to companies. The exemptions that are available to Companies also apply to LLPs. The members of a limited liability partnership have a limited liability, but the LLP itself is liable for all the debts incurred to the full extent of its assets. This limited liability is only possible because a LLP is a legal person, separate from its members. However, a disadvantage of adopting LLP status as compared with a Partnership mainly relates to matters pertaining to disclosure. The need, in the case of LLPs, to adopt corporate financial reporting standards subject to a "true and fair" requirement, and to file accounts at Companies House, including a specific requirement to disclose the share of profits and the remuneration of the most highly paid member, may be regarded as a serious disadvantage by some firms.

Financial Regulation
LLPs will be required to provide financial information equivalent to that of companies including the filing of Annual Accounts. Among other things, they will also be required to:     file an Annual Return; notify any changes to the LLP's membership; notify any changes to their members’ names and residential addresses; and notify any change to the address of its Registered Office.

Consequently, a LLP is governed by Company Law (the LLP has the separate legal personality and limited liability of the company, for example), but often adapted to its own particular needs, rather than by the strict law of partnership, except in two important aspects. The exceptions are in respect of taxation (where members are taxable as if they were partners), and the internal decision-making arrangements, where the divisions between members and directors is not followed (in essence, directors do not exist, and all members are prima facie entitled to be involved in the management of the LLP), with members having the same freedom as in a partnership to decide on the various forms of their internal decision-making procedures. N.B. One significant similarity, however, lies in the fact that the profits are not subject to Corporation Tax. LLP members are taxed on profits in the same way as parties in an ordinary partnership – i.e. there is liability for Income Tax on any profits received.

© ABE

90

The Law Relating to Associations 2: Partnerships

Duties and Rights of Members
The rights and duties of the members of a LLP inter se and to the partnership itself are governed by the provisions of any agreement between the members, subject to the provisions of any enactment. To the extent that there is not specific agreement on any matter, the mutual rights and duties of the LLP and its members will be governed by default regulations made under Section 15 (c). The following provisions have been laid down in Regulation 7:   All the members are entitled to share equally in the capital and profits of the Partnership. The LLP must indemnify each member in respect of payments made and personal liabilities incurred by that member in the ordinary and proper conduct of its business, or in or about anything necessarily done for the preservation of the business or its property. Every member is entitled to take part in its management, and no member will be entitled to remuneration for acting in the business or management of the Partnership. No person may be introduced as a member or voluntarily assign an interest in it without the consent of all existing members. Any difference arising as to ordinary matters connected with its business may be decided by a majority of the members, but no change may be made in the nature of its business without the consent of all the members.

  

The books and records of the LLP are to be made available for inspection at its Registered Office, or at any other place as the members think fit; all members are to have access to, and inspect/copy any of them. Each member shall render true accounts and full information of all things affecting the partnership to any member or a member's legal representatives. A member who, without the consent of the Limited Liability Partnership, carries on any business of the same nature as and competing with the partnership, must account for and pay over to it all profits made by that member in that business. All members must account to the partnership for any benefit derived by them without its consent from any transaction concerning the partnership, or from any use by them of its property, name or business connection. Section 4(4) distinguishes employees from partners and members of a LLP will not be regarded as employees: see the case of Kovats (2009). It is possible to be a director and/or shareholder of a company and also an employer, but a LLP is different. Members as Agents Each member of a LLP is an agent of that Partnership; it follows, therefore, that each member may represent/act on its behalf in all its business concerns. A LLP is not, however, bound by the actions of a member where that member has no authority to act for the LLP, and the person dealing with that member is aware of this, or does not know or believe that the member was in fact a member of the Partnership. Transactions with a person who is no longer a member of a LLP are still valid transactions with the LLP, unless the other party has been told that the person is no longer a member, or the Registrar has received a notice to that effect. Where a member of a LLP is liable to a person (other than another member of the LLP) for a wrongful act/omission in the course of the LLP’s business or with its authority, the Partnership itself will be liable to the same extent as the member. The law relating to “ostensible authority” applies equally to transactions entered into by a partner: a contract entered into by any partner will bind the LLP, unless there was an absence of such authority known to the third party. In practice, negligent members will not

© ABE

The Law Relating to Associations 2: Partnerships

91

often be personally liable to third parties for any loss caused by their negligence. Personal liability will, therefore, only occur when it appears from the circumstances that the negligent member was undertaking a personal duty to the third party. If acting as an agent of the firm, then only the LLP’s assets will be at risk; none of the members will have personal liability. In general, therefore, any third party would usually contract with the LLP rather than with the members themselves, since in those circumstances it would be the LLP which is liable. It would, however, under certain circumstances, be possible to bring a claim for economic loss against an individual member who has been negligent. Any such claim would be a civil action outside the contract, as the party would have contracted with the LLP. Recent case law suggests that the courts would, when reaching any decision as to whether a member was potentially liable to a client, have regard as to whether or not the LLP member assumed personal responsibility for the advice, whether the client relied on the assumption of responsibility, and whether such reliance was reasonable in all the circumstances. See: Williams and another v. Natural Life Health Foods Ltd and Richard Mustlin. Note that this is different from the situation with a normal partnership where the third party would contract with a partner as the Principal for and on behalf of the other partners in the Partnership.

Termination of Membership
A person may cease to be a member by death, dissolution or in accordance with any agreement with the other members of the LLP. Where there is no agreement, a member may cease to be a member by giving reasonable notice to the other members. A further default provision has been laid down in Regulation 8: no majority of the members can expel any member, unless such a power has been expressly conferred between the members. Where a person ceases to be a member of a LLP, or that person's interest in the LLP is transferred to another person, the former member, the member's Personal Representatives, the member's Trustee in Bankruptcy/Liquidator or the Trustees under the Trust Deed for the benefit of the creditors/assignee may not interfere with the management/administration of the LLP, but may receive any amount to which they are entitled. To date, the LLP form has proved reasonably attractive, especially for professional businesses, in that:     there is far less public scrutiny, as the partnership agreement itself remains confidential as between the partners the manipulation of shares between partners may be easier to control changes in the membership of a LLP may be effected with some ease easier designation of partnership roles.

© ABE

92

The Law Relating to Associations 2: Partnerships

© ABE

93

Chapter 5 Contract Law 1: Fundamentals of Contracts and their Creation
Contents
A. What is a Contract? Form of Contract Classification of Contracts Contracts "Uberrimae Fidei" The Agreement What is an Offer? Acceptance in the law of contract Tenders Incomplete Agreement Certainty of Terms Classification of Statements and Terms Express Terms Implied Terms Representations Conditions Warranties Consideration Definitions Consideration Must "Move" from the Promisee Forbearance to Sue as Consideration Is the Performance of an Existing Statutory Duty Sufficient Consideration? Is the Performance of an Existing Public Duty Sufficient Consideration? Is the Performance of an Existing Contractual Duty Sufficient Consideration? Discharge or Variation of Existing Duties Part-payment of a Debt The Intention to Create Legal Relations Commercial Agreements

Page
95 96 97 97 99 99 104 106 106 107 108 108 108 109 110 110 111 111 114 114 115 115 116 117 118 119 119 (Continued over)

B.

C.

D.

E.

© ABE

94

Contract Law 1: Fundamentals of Contracts and their Creation

Domestic and Social Agreements Other Cases F. Capacity to Contract Minors Mentally-disordered and Drunken Persons

120 121 121 121 122

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

95

A. WHAT IS A CONTRACT?
The whole essence of business life is the making of contracts – contracts to perform work; contracts to buy and sell; contracts to make something; or to employ someone; or to use something. We must, therefore, know what a contract is, and when we have one. A contract is an agreement between two or more people. Every contract is an agreement – but not every agreement is a contract. Two people agree about something to be done. They are called "the parties". First, the subject of their agreement may be such that neither of them has the remotest intention that any legal consequences should flow from it. For example, you invite someone to dinner and she says "Yes, I would love to come". You have an agreement. However, if she just does not turn up, neither of you would expect to hurry round to court and sue for the cost of the wasted food! So, the first essential of a contract is that the parties should intend their agreement to have legal consequences. In the second place, the agreement reached may have certain aspects about it which make it such that the law will not enforce it. In other words, although it is a contract, it is not a valid contract. Per Treitel: " A contract may be defined as an agreement which is either enforced by law or recognised by law as affecting the legal rights or duties of the parties. The law of contract is, therefore, primarily concerned with three questions: Is there an agreement? Is it one which should be legally recognised or enforced? Or, in other words, what remedies are available to the injured party when a contract has been broken?" There are seven essential elements of a legally enforceable contract. (1) (2) (3) (4) Agreement – i.e. offer and acceptance. Intention – to create legal relations. Consideration – As a general rule the law will not enforce gratuitous promises, i.e. those, which are not supported by consideration, e.g. putting down a deposit on a car. Contractual capacity – Each party must have the power to legally bind himself contractually to the agreement – minors (people under the age of 18) and people who are either drunk (i.e. results in the contract been flawed on the grounds of undue influence) or insane have limitations placed on their power to agree to a contract. Form – The general rule is that a contract may be in any form whatsoever. Thus, most contracts are valid irrespective of whether they have been made orally, in writing or even implied by conduct, as in Carlill v. Carbolic Smoke Ball Co. (1893). Certain contracts must be in writing by virtue of an Act of Parliament, including:      Bills of exchange (e.g. cheques) and promissory notes (e.g. bank notes) Regulated consumer agreements (e.g. a hire purchase agreement) Legal assignments of debts (i.e. the signing over of a creditor's right to payment) Contracts for the sale or other dispositions of land Certain contracts must be evidenced by writing (although the contract itself may be oral). The main example here is a contract of guarantee – such a contract cannot be enforced unless the person giving the guarantee has given some written evidence of his agreement.

(5)

(6) (7)

Legality i.e. the contract must not be illegal. An example of an illegal contract would be one for the supply of illegal drugs such as cocaine or heroin. True consent – i.e. there must be no vitiating factors such as duress or undue influence.

© ABE

96

Contract Law 1: Fundamentals of Contracts and their Creation

Form of Contract
Most contracts are equally valid and effective, whether they are oral or written. The only difficulty with oral contracts is that the parties may not properly remember what they actually agreed, which makes it more difficult – should need arise – to prove the details of the agreement. However, certain contracts must be in writing, and others are unenforceable unless evidenced by writing. Contracts which, by statute, must be in writing      A bill of exchange or promissory note must be made in writing (Bills of Exchange Act 1882). Contracts of marine insurance are void unless made in writing in the form of a policy (Marine Insurance Act 1906). A consumer credit agreement, such as a hire purchase or loan agreement, must be in writing and signed by both parties (Consumer Credit Act 1974). A bill of sale must not only be in writing but also in a certain form; otherwise, it is void (Bills of Sale Act 1878). Contracts for the sale of land – but not contracts to grant a leasehold – must be in writing and must be signed by or on behalf of both parties (Law of Property (Miscellaneous Provisions) Act 1989). In Commission for the New Towns v. Cooper (GB) Ltd (1995), the prospective vendor and purchaser of a leasehold property met and orally agreed the terms for its sale, agreeing to place on record the terms of their agreement in an exchange of letters which, in fact, amounted to an offer and acceptance (see later) when prepared. The court was required to decide whether a valid agreement had been concluded for the purpose of Section 2(1) of the Law of Property (Miscellaneous Provisions) Act 1989, which states: "A contract for the sale or other disposition of an interest in land can only be made in writing and only by incorporating all the terms which the parties have expressly agreed in one document or, where contracts are exchanged, in each." HELD: A valid agreement had not been made, the court stating that: "when there has been a prior oral agreement, there is only an 'exchange of contracts' within S.2(1) of the Act when documents are exchanged which set out or incorporate all of the terms which have been agreed and when, crucially, those documents are intended, by virtue of their exchange, to bring about a contract to which S.2(1) applies .... The letters exchanged ... were not documents of the kind described as contracts in S.2(1) of the 1989 Act, and therefore no contract meaning a legally enforceable agreement was made …." In Firstpost Homes Ltd v. Johnson (1995), the prospective vendor and purchaser met and concluded an oral agreement for the sale and purchase of 15 acres of land. Thereafter, the prospective purchaser typed out a letter, addressed to him, containing the terms of the agreement for the other party to sign. The vendor's name and address was stated in the letter and it also referred to an "enclosed plan" which identified the land, the plan being attached to the letter with a paper-clip. The prospective vendor signed the letter and the plan; the prospective purchaser signed the plan but did not sign the letter. Section 2(3) of the Law of Property (Miscellaneous Provisions) Act 1989 states: "The document incorporating the terms or, where contracts are exchanged, one of the documents incorporating them (but not necessarily the same one) must be signed by or on behalf of each party to the contract."

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

97

The prospective purchaser claimed specific performance (see later) of the contract. HELD: His claim would be rejected. Section 2(3) of the 1989 Act required the letter as the contractual document to be signed by both parties. The purchaser's signing of the plan only did not satisfy this requirement. Contracts which, by statute, must be either in writing or evidenced by writing  The Statute of Frauds 1677 decreed that some contracts would be unenforceable if their existence was not "evidenced" by writing. Some note or memorandum in writing was necessary, signed by the party to be charged with the contract. The object was to prevent certain fraudulent practices which were then common. The Statute of Frauds has been repealed, but some of its provisions have been exempted from repeal, and re-enacted. Contracts of guarantee must, by the Law Reform (Enforcement of Contracts) Act 1954, still be either in writing or evidenced by it. A contract of guarantee is one whereby one person agrees to "answer for the debt, default or miscarriage of another person" – e.g. A promises that if B does not pay the debt, he will. These must be distinguished from contracts of "indemnity", where a party promises to prevent loss falling on another from the results of a transaction into which he has entered at the request of the person who promises the indemnity. A contract of indemnity does not have to be evidenced by writing.

Classification of Contracts
There are two classes of contract – contracts under seal (or specialty contracts) and simple contracts. (a) Contracts under seal These form an overriding exception to the rule that, unless a contract is required by statute to be in writing or evidenced by it, it is equally valid if merely oral. Contracts under seal were, originally, those of a more important nature, and the formalities required of "signing, sealing, and delivering" were designed to impress on people the solemnity of the transaction. Nowadays, these formalities have largely disappeared, but such a contract should still contain the words "signed, sealed and delivered ", and it is usual (but not necessary) to impress on it a red adhesive wafer in place of the seal. Contracts under seal, usually called "deeds" – technically "specialties" – can be used for any contracts, but they must be used for:    Contracts where there is no "consideration" – e.g. a gift is legally enforceable only if it is given under seal Conveyances of land Leases of over three years.

The limitation period for taking action in respect of contracts under seal is 12 years: Limitation Act 1939 – that is, the law will not enforce a contract unless an aggrieved party takes action within a certain time after any cause of action arises. This is called "the limitation period". (b) Simple contracts These are all other contracts, whether in writing or parol (i.e. verbal). The limitation period for simple contracts is six years.

Contracts "Uberrimae Fidei"
Contracts "uberrimae fidei" (of the utmost good faith) are those in which it is essential that there is a complete and honest exchange of information of all material facts between the parties. The best examples of such contracts are those relating to insurance. Here, the

© ABE

98

Contract Law 1: Fundamentals of Contracts and their Creation

insurer must be supplied with all the material facts by the insured party before he/she accepts the risk. Other examples of such contracts are those relating to title in contracts for the sale of land (as regards title only), contracts to subscribe for shares in companies, contracts of family arrangement, and contracts made between persons who have previously entered into contracts of suretyship and partnership. If full disclosure of the facts is not made, the other party has the right to rescind the contract, and damages may be claimed for any negligent misstatements. The case of Woolcott v. Sun Alliance & London Insurance Ltd (1978) illustrates the principle of uberrimae fidei in insurance contracts. The claimant, Mr Woolcott, who had a conviction for robbery, was in September 1972 granted an advance of £12,000 by the Bristol and West Building Society, to whom the defendant insurers had issued a block policy of fire insurance. No question was asked by the building society about Mr Woolcott's moral character. The advance having been granted, the names of the society and claimant as mortgagee and mortgagor, respectively, were noted in separate record sheets which, as between the building society and the insurers, were declared to be incorporated in, and to form part of, the policy. A fire occurred on 16 August 1974, as a result of which the property was destroyed. The defendant insurers satisfied the building society's claim of £12,000, the amount of their interest as mortgagees, but refused to meet Mr Woolcott's claim on the ground that he had not disclosed, either to the insurers or to the society, material facts known to him, namely his previous convictions. The court accepted the evidence of the underwriters called to give evidence, that the "criminal record of an assured can affect the moral hazard which insurers have to assess". On the duty to disclose, the court relied strongly on the judgment of J. MacKenna in Lambert v. Co-operative Insurance Society Ltd (1976), where the learned judge said: "Everyone agrees that the assured is under a duty of disclosure and that the duty is the same when he is applying for a renewal as it is when he is applying for the original policy .... There are, at least in theory, four possible rules or tests which I shall state. One, the duty is to disclose such facts only as the particular assured believes to be material. Two, it is to disclose such facts as a reasonable man would believe to be material. Three, it is to disclose such facts as the particular insurer believe to be material. Four, it is to disclose such facts as a reasonable or prudent insurer would have treated as material." The court held that the proper test in the case was the fourth test: the claimant had a duty to disclose his criminal record, and that duty was not affected by the absence of a proposal form. In St Paul Fire and Marine Insurance Co. (UK) Ltd v. McConnell Dowell Constructors Ltd (1996), the defendant company were building contractors and had entered into a contract for the construction of new Parliament buildings for the Marshall Islands, a group of islands in the Pacific Ocean. The claimants were their underwriters who were providing construction works insurance for the project. The insurance risk had been accepted by the underwriters on the defendant's assurance that the buildings would have piled foundations: in the event, and without notifying the claimants, the defendant used spread foundations, which were shallower and less expensive than piled foundations. The buildings accordingly sustained subsidence damage in the course of their construction. The claimants sought a declaration from the court that they were entitled to avoid the insurance policy because of material misrepresentation and non-disclosure.

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

99

HELD: The declaration sought by the claimants would be granted. The type of foundation constituted a material consideration by any prudent insurer in estimating risk, and on the evidence the claimants would not have effected insurance cover on the same terms if they had been notified of the change in the type of foundation. The court stated: "... there is no general obligation upon a contracting party to disclose even material facts to the other party (provided the non-disclosure does not make any positive representations misleading) whereas contracts of insurance, being of the utmost good faith, ... do give rise to such duty ...."

B. THE AGREEMENT
Offer and acceptance are the two elements of a binding agreement. To this end, the courts are concerned with the objective appearance of an agreement, rather than the fact of agreement i.e. the parties to a contract are judged on what they said and did rather than on what they intended. The standard is that of the reasonable man. As you can imagine, a number of rules have been developed to regulate and assist in the determination of whether a valid offer and/or acceptance has been made.

What is an Offer?
In the words of Treitel, an offer is: "an expression of willingness to contract on certain terms, made with the intention that it shall become binding as soon as it is accepted by the person to whom it is addressed". The usual definition of an offer is a promise, capable of acceptance, to be bound on particular terms. The first consequence to note from this definition is that the promise to be accepted must not be too vague. The classic case on this point is Scammel v. Ouston (1941) where the courts refused to enforce a sale stated to be made “on hire purchase terms”, because, neither the rate of interest, nor the period of repayment, nor the number of instalments were stated. The fundamental feature of an offer is that it expresses a definite willingness to be bound by a contract on the part of the person making the offer. The offer sets out the terms upon which the offeror is willing to enter into contractual relations with the offeree. As soon as it has been accepted by the offeree, a legally binding contract has been entered into, and failure to perform what has been promised will result in breach of contract. An offer may be made to a particular person, a group of people, or even the world at large, following the decision in Carlill v. Carbolic Smoke Ball Co. (1893). If the offer is restricted then only the people to whom it is addressed may accept it; but if the offer is made to the public at large, it can be accepted by anyone as evidenced by Carlill. In this case, the company manufactured a patent "smoke ball" which, it claimed, prevented influenza. It advertised in the press that it would pay £100 to anyone who contracted influenza after taking one of its smoke balls. Mrs Carlill read the advertisement, bought a smoke ball from the chemist, and used it as directed. However, she promptly got influenza, and she sued the company for the promised sum of £100. The company claimed that it was a "mere puff", and not meant to be taken seriously. HELD: The promise to pay £100 was a valid offer to the world at large. Mrs Carlill had accepted by complying with the conditions, and was entitled to the money.

© ABE

100

Contract Law 1: Fundamentals of Contracts and their Creation

Pre-requisites of a valid offer There are five pre-requisites of a valid offer. To be valid, an “offer” must be: (1) Clear, definite and unequivocal. The “offer” must represent a definite and unequivocal statement of willingness to be bound in contract i.e. it must not be flawed by vitiating factors such as duress or undue influence. Moreover, it cannot be vague or uncertain in its interpretation. An “offer” to sell someone a particular car for £5,000 will be an “offer”. But a statement that a person may sell one of his cars for “about £5,000” will not constitute an “offer” for it is uncertain and vague. It is up to the parties to make their intentions clear. Consequently, the courts will not enforce:   Vague agreements: Scammel v. Ouston (1941) or Incomplete agreements: Walford v. Miles (1992). In this case the courts refused to enforce an “agreement to negotiate in good faith” – “an agreement to make an agreement” will always be void.

(2)

One that the offeror intends to be bound by. There must be a clear intention of willingness at the time the contract is made to be bound by the “offer”. All the offeree has to do is accept the terms as laid down by the offeror and the contract will be complete. The offeror must not be merely negotiating: Gibson v. Manchester City Council (1979). In this case, the Council had sent a letter to Gibson stating “The corporation may be prepared to sell the house to you at a purchase price of £2,725.” This was held not to be an “offer”, capable of acceptance by Gibson (the letter merely constituted an “invitation to treat” i.e. it was inviting Gibson to make an offer to buy the property from the Council. Made to a person, a group of persons or the whole world at large. An example of an offer being made to the whole world is provided by the leading contract case of Carlill v. Carbolic Smoke Ball Co. (1893). Communicated by the offeror, so that the offeree may either accept or reject it i.e. a person cannot accept an offer of which he has no knowledge. In order to be valid, the offer must actually reach the person to whom it was made to be capable of acceptance i.e. the offeree must know of its existence, as evidenced by the case of R v. Clarke (1927). In this case, the Government of Western Australia offered a free pardon to the accomplices of certain murderers if they gave evidence that would lead to their arrest and convictions. Clarke provided the information, but admitted that he was not aware of the reward at the time he gave the information to the authorities. The court held that he could not claim the reward of a free pardon because he was not aware of the “offer” at the time he gave the information. Open when it is accepted i.e. still in force. That is, it must still be in force at the time when the offeree accepts it. It is important to note that, when an offer has terminated, it is no longer capable of acceptance by the offeree.

(3)

(4)

(5)

Until such time as all of the above conditions are present, the “offer” will not be valid and, as such, is incapable of acceptance by the offeree. Distinction from request for information or invitation to treat An offer must be distinguished both from a request for information or an invitation to treat. The importance of this distinction lies in the fact that only offers can be accepted and lead to a legally binding contract. (a) An example of a request for information occurred in Harvey v. Facey (1893). P sent a telegram to D, saying: "Will you sell us Bumper Hall Pen? Telegraph lowest cash price." D replied by wire: "Lowest cash price Bumper Hall Pen for £900." P promptly

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

101

sent another telegraph: "We agree to buy Bumper Hall Pen for £900." The sale never went ahead, and P sued. HELD: The first telegram was a mere request for information. The second was information supplied as requested. The third was the only one with any contractual meaning, as it constituted an offer to buy for £900. This offer was never accepted, so no contract came into being. (b) An invitation to treat is not the same thing as an offer. An invitation to treat is merely an invitation to others to make offers. It follows that an invitation to treat cannot be accepted in such a way as to form a contract and equally the person extending the invitation is not bound to accept any offers made to them. There are many instances of "invitations to treat".  A shopkeeper (or supermarket) displaying goods marked at a certain price is inviting the public to make an offer. The price tag is merely an indication of the price that is likely to be accepted. "He does not bind himself to sell at that price, or at all": Timothy v. Simpson (1834); Pharmaceutical Society of Great Britain v. Boots Cash Chemists (Southern) Ltd (1952) What happens is that, in a shop or supermarket, the act of taking goods off the shelf contractually means nothing. However, putting them down in front of the shopkeeper or cashier constitutes an offer to buy (at the named price, unless otherwise stated in the offer). Ringing up the price on the till, for example, constitutes acceptance.  In Partridge v. Crittenden (1968) the plaintiff had advertised live birds for sale in a periodical. The plaintiff was charged with unlawfully offering for sale a wild live bird contrary to Section 6(1) and Schedule 4 of the Protection of Birds Act 1954. It was held that the plaintiff could not be guilty of the offence, and charged, because the advertisement was an invitation to treat and not an offer for sale. A request for a tender of an estimate. “Tenders” arise where one party wishes particular work to be done and issues a statement requesting interested parties to submit the terms of which they are willing to carry out the work. In the case of “tenders”, the person who invites the tender is simply making “an invitation to treat” – the person who submits a tender is the offeror and the other party is at liberty to accept or reject the offer made by him. It is only when a “tender” is actually made that it is regarded as an “offer”, which the party inviting the “tenders is free to “accept” or reject. In Spencer v. Harding (1870), it was held that "an invitation to tender is not, normally, an offer, unless accompanied by words indicating that the highest or lowest tender will be accepted". However, in Blackpool & Fylde Aero Club Ltd v. Blackpool Borough Council (1990), it was held that an invitation to tender could constitute an offer to consider the merits of the tender – along with any other tenders. This was accepted by anyone who submitted a tender on time. Thus, the council could be sued for refusing to consider a tender, even though it had been submitted by the specified date.  A recent development in this area is the concept of a Referential Bid – where, in a competitive tender, one party tries to secure an order, by referring to bids made by other parties: Harvela Investments v. Royal Trust Co. of Canada (1986); Barry v. Heathcote Ball (2000). At an auction, a bid constitutes an offer. As with other offers, this can be withdrawn at any time before the fall of the hammer, which constitutes acceptance: Sale of Goods Act 1979, Section 57(2).

© ABE

102

Contract Law 1: Fundamentals of Contracts and their Creation

An offer of shares to the public. Contrary to common understanding, a share prospectus is not an offer; it is merely an “invitation to treat” inviting people to make offers to subscribe for shares in the company which is the subject of the prospectus.

Despite the phenomenal growth in trade over the Internet and other modes of commercial dealing, it is a sad reflection on the current law that it appears to be unable to keep abreast of these developments. The area of e-commerce continues to be beset with the usual problem of deciding upon which elements of the transaction made on a website constitutes the "offer" (possibly a unilateral one) and which the "invitation to treat". Despite the intervention of statute (The Electronic Communication Act 2000) and European Directives on the issue (Electronic Commerce [EC Directive] Regulations 2002), it still remains a contentious issue, although the received wisdom is that such a website display constitutes merely an invitation to treat. Such a view is supported by the problems recently experienced by Argos Stores which, by mistake, displayed on their websites TV sets worth £300 on sale for just £3. However, the issue was settled by reference to the principles of mistake (see Unit 6), which were brought to bear to decide the issue in Argos's favour. See, however, J. Pereira Fernandes SA v. Mehta (2006) where it was held that an offer sent by e-mail did satisfy the “writing” requirements of s4 Statute of Frauds 1677. Termination of an Offer An offer, once made, does not remain open for acceptance indefinitely. It can terminate for a number of reasons and once terminated, it is no longer capable of being accepted. An offer terminates in five different ways: (1) By death An offer will terminate on the death of the:   Offeror where the offer was of a personal nature; or Offeree: Reynolds v. Atherton (1921). In this case, Warrington LJ was of the opinion that an offer ceases, by operation of law, on the death of the offeree. The better view is, probably, that it is terminated only if the offeree is aware of the fact, unless the personality of the offeror is an essential ingredient of the matter.

(2)

By the occurrence of a condition The condition may be express or implied: Financings Ltd v. Stimson (1962). In this case, the defendant, on 16 March, saw at the premises of X, a dealer, a motor car advertised for £350. He wished to obtain it on hire purchase and signed a form provided by X. The form was that of the plaintiffs, Financings Ltd, a finance company, and stated: "This 'agreement' shall be binding on (the plaintiffs) only upon signature on behalf of the plaintiffs." On 18 March, the defendant paid the first instalment of £70 and took away the car. On 20 March, dissatisfied with it, the defendant returned it to X, saying that he was ready to forfeit his £70. On 24 March, the car was stolen from X's premises, but was recovered, badly damaged. On 25 March, in ignorance of these facts, the plaintiff signed the “agreement”. When the plaintiffs subsequently discovered what had happened, they sold the car for £240 and sued the defendant for breach of the hire purchase contract. The Court of Appeal gave judgment for the defendant. The so-called “agreement” was, in truth, an offer by the defendant to make a contract with the plaintiff. But it was subject to the implied condition that the car remained, until the moment of acceptance, in substantially the same state as at the moment of the offer. As Donovan LJ asked in the present case: "Who would offer to purchase a car on terms that, if it were severely damaged before the offer was accepted, he, the offeror, would pay the bill?"

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

103

(3)

By rejection Rejection can either be outright (express or implied), or in the form of a “counter-offer: if acceptance is not a mirror image of the offer, then it will amount to a counter-offer, and will terminate the original offer: Hyde v. Wrench (1840). In this case, the defendant offered to sell a farm for £1,000. The plaintiff said he would only give him £950 for it. It was held that this constituted a counter-offer, which terminated the original offer, which was, therefore, no longer open for acceptance. See also Pickfords v Celestia (2003).

(4)

By lapse of time If the offer is stated to be open only for a specified time period, it will expire (lapse) after this time – where there is no specific time period mentioned by the offeror, the offer will lapse after a reasonable length of time. In the event of a dispute about the duration of an offer, the court will determine what is reasonable – what is reasonable is a question of fact to be decided in each case on its merits. An offer may lapse, and thus be incapable of being accepted, because of passage of time:   At the end of a stipulated time (if any); or If no time is stipulated, after a reasonable time: Ramsgate Victoria Hotel Co. v. Montefiore (1866). In this case, an attempt to accept an offer to buy shares after five months failed, as the offer had clearly lapsed.

(5)

By revocation (or cancellation) The offeror may revoke the offer at any time prior to acceptance: Routledge v. Grant (1828). Grant offered to buy Routledge's house and gave him six weeks to accept the offer. However, within that period, he withdrew the offer. It was held that Grant was entitled to withdraw the offer at any time before acceptance and, upon withdrawal, Routledge could no longer create a contract purporting to accept it. It should be noted that, unless an offer specifically states that it is irrevocable, or that it will remain open for a definite stated time, it can be withdrawn at any time before it has been accepted – provided, that is, that the revocation has been communicated to the offeree: Byrne v. Van Tienhoven (1880). That is the general rule. However, difficulties can arise. For instance, if the acceptance of an offer involves the doing of some act (acceptance by conduct), can the offer be withdrawn when the act has been partially completed? According to the strict rule, the answer should be "yes" – but, fortunately, common sense has prevailed. The classic example is in Rogers v. Snow (1573): if one man offers another £100 if he will go to York, can the offer be withdrawn when the traveller is halfway there? Much judicial ink has been used to explain this, but the generally accepted solution is that the acceptance is complete once the offeree has commenced the performance, but the offeror is not bound to pay until it has been completed. In Errington v. Errington (1952), a father promised his son and daughter-in-law that a house in which they lived should be theirs as soon as they had paid off the mortgage. To his knowledge, they started paying the instalments. He then purported to revoke the offer. Lord Denning had this to say: "The father's promise was a unilateral contract, a promise of the house in return for their act of paying the instalments. It could not be revoked by him once the couple entered on performance of the act, but it would cease to bind him if they left it incomplete and 'unperformed'."

© ABE

104

Contract Law 1: Fundamentals of Contracts and their Creation

Acceptance in the law of contract
Acceptance is the unconditional assent to all the terms of the offer. There are a couple of points to be borne in mind at this stage  The offeror can require any form of acceptance, whether it be oral, written or inferred from the conduct of the parties e.g. in Carlill v. Carbolic Smoke Ball Co. (1893), where Mrs Carlill was held to have accepted the company's offer by using the smoke ball in the prescribed manner. Acceptance is not effective unless it is communicated to the offeror. Felthouse v. Bindley (1862). In this case, the plaintiff, Paul Felthouse, wrote to his nephew, John, on 2 February, offering to buy his horse for £30 15s, and added, "If I hear no more about him, I consider the horse mine at that price". The nephew made no reply to this letter, but intimated to the defendant, an auctioneer, who was going to sell his stock, that the horse was to be kept out of the sale. The defendant inadvertently sold the horse to a third party at an auction on 25 February and the plaintiff sued him. The court held that the plaintiff's action must fail, as there had been no acceptance of his offer to buy the horse before 25 February.

Pre-requisites of a valid acceptance There are four pre-requisites of a valid acceptance. It must be: (1) (2) (3) Made while the offer is still in force: Routledge v. Grant (1828) Made by the offeree or his authorised agent: Powell v. Lee (1908) Clear, absolute and unqualified i.e. exactly match the terms of the offer: If any alteration is made or anything added, then this will be a counter offer: Hyde v. Wrench (1840) Communicated to the offeror either orally, in writing, or by conduct; unless acceptance by conduct (as in Carlill) is appropriate or the postal rule applies. The postal rule states that the communication of acceptance will be complete and effective at the point when the letter of acceptance is posted or placed into the hands of the relevant postal authorities, not when it is received: Adams v. Lindsell (1818). It is possible for the offeror to expressly or impliedly reject “The Postal Rule”. In Adams v. Lindsell (1818), on 2 September, D sent a letter offering to sell P some wool, and he requested an answer by post. The letter was misdirected, and it did not reach P until 5 September. He accepted the same day. Had the offer been properly directed, an answer should have been received by 7 September – so, on 8 September, D sold the wool to someone else. P's acceptance arrived on 9 September. HELD: The contract was formed on 5 September, when P's acceptance was posted. D was, therefore, in breach of contract. However, the so-called "parol rule" is not absolute and, in circumstances where a contrary intention is indicated, it will be ignored. Communication of acceptance The main rules regarding communication of acceptance are as follows. (1) (2) It must be carried out by the offeror or his authorised agent: Powell v. Lee (1908). Acceptance is not effective unless and until it is communicated to the offeror: Entores Ltd v. Miles Far East Corporation (1955), following the reasoning of Entores where an acceptance message is left on an answer machine, acceptance is not communicated unless and until it is heard by the offeror. Also, linking in with other modern communication methods, when a person sends an email to indicate their acceptance, of an offer, acceptance does not take place unless

(4)

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

105

and until the e-mail concerned has been read by the recipient: Pereira Fernandes (2006); Mondial Shipping v. Astarte Shipping (1995). (3) (4) An offeror may not state that silence shall amount to acceptance: Felthouse v. Bindley (1862). Communication of acceptance by post is subject to the postal rule: Adams v. Lindsell (1818). The postal rule states that the communication of acceptance will be complete and effective at the point when the letter of acceptance is posted or placed into the hands of the relevant postal authorities (hence the need in such cases to sent documentation by registered post). In accordance with the postal rule, acceptance occurs when a letter is posted, not when it is received, in direct contrast to revocation of an offer. Moreover, it is irrelevant that the letter is lost in the post – this will not prevent the application of the postal rule by the courts: Household Fire Insurance Co. v. Grant (1876). In Brogden v. Metropolitan Railway Co. (1877), Mr Brogden had supplied coal to the company without any formal agreement. It was then suggested that the parties should have a written contract. So, the company's agent drew up a draft which he sent to Mr Brogden with a request to fill in certain blanks. Mr Brogden duly did this, and signed and returned the draft – but after having made certain alterations. The agent put the agreement in a drawer and forgot about it. Coal was supplied on the stated terms – then a dispute arose. HELD: The return of the draft as altered was a counter-offer. The acceptance of this counter-offer was never communicated to Mr Brogden – so prima facie, no contract was formed. However, acceptance could, on the facts, be inferred, as the subsequent supply of coal on the terms of the document amounted to acceptance by conduct. If an acceptance is given verbally or by telephone, or a written document is handed to the offeror, no problem of when the acceptance is communicated can arise. However, if acceptance is made by post, what then? Is it valid when posted, or when received? There has to be a rule, and for no particular reason, English law says that a postal acceptance is complete, and the contract binding, when the letter is posted or handed to the postal authorities. This means that, should the letter of acceptance be lost or delayed in the post, this does not affect the validity of the contract. (5) (6) Acceptance may be in the form of express words or implied by conduct: Carlill v. Carbolic Smoke Ball Co. (1893). Acceptance must be communicated in the precise way stipulated by the offeror, unless an equally quick, efficient or reliable method is chosen e.g. via e-mail instead of facsimile. If the offeror suggests a particular form of acceptance, but does not insist upon this, then another equally effective method of acceptance will suffice: Manchester Diocesan Council for Education v. Commercial and Central Investments Ltd (1969). Conversely, if no particular method of acceptance is prescribed, the form of communication will depend on the nature of the offer and the circumstances in which it is made. If the offeree requires his offer to be accepted in a particular manner, then acceptance must accord with these requirements.

When is acceptance by post legally effective? Acceptance by post will only be effective where acceptance by post is either the chosen, obvious or reasonable method of acceptance.  Chosen method of acceptance. The post will be a chosen method of acceptance where the offeree has stipulated that posting the acceptance is the only acceptable method.

© ABE

106

Contract Law 1: Fundamentals of Contracts and their Creation

Obvious method of acceptance. The post will be an obvious method of acceptance in a standard business situation or where the parties are communicating at a distance and the offeror requires a record of the reply. Reasonable method of acceptance. The use of the postal service is reasonable in the circumstances, for example, where an offer has been made be post (i.e. by a letter of offer) and the offeror has indicated the use of the post for the purpose of making the acceptance (i.e. by a letter of acceptance). It will be the reasonable method of acceptance if an ordinary person, looking at all the circumstances, would assume that to reply by post was the proper way to accept. Clearly, acceptance by post will not be reasonable where there is a postal strike.

The logic underlying the postal rule is that the main risks associated with its use lie with the offeror should the letter of acceptance be delayed or lost in the post.

Tenders
This topic has to be specially considered regarding acceptance of an offer. Suppose a local authority invites tenders for the supply of specified goods to be delivered over a given period. A trader puts in a tender showing that he/she is prepared to supply at a given price; this is clearly an offer. But there may be difficulty in deciding whether subsequent action by the corporation is an acceptance. There are two possibilities, depending on the wording of the corporation's original invitation.   If the corporation states that it requires a specified quantity of the goods during a particular period, then, on "acceptance" of the tender, the trader is bound to deliver. If the corporation advertises that it may require specified goods up to a maximum amount, deliveries to be made if and when required, the effect of acceptance is quite different. The trader has made a standing offer. There is no acceptance by the corporation in the legal sense: this will only take place when a requisition for a definite quantity of goods is made. Each requisition by the offeree, i.e. the corporation, is a separate act of acceptance which creates a separate contract: Percival Ltd v. LCC (1918).

Incomplete Agreement
It sometimes happens that the parties to a contract will agree in principle only, leaving many details unresolved, or they will agree only certain things, or omit other necessary matters. These are called "incomplete agreements". In extreme cases, the court will hold the whole contract void for uncertainty. However, it is reluctant to do this, and it will uphold a contract if at all possible. For example, in Perry v. Suffields Ltd (1916), the only detail agreed in a contract for the sale of a public house was the price of £7,000. Such vital matters as the date for completion and the deposit were omitted. The court upheld the sale, as it was the manifest intention of the parties that the sale should go ahead. Such incomplete agreements tend (though this is by no means invariable) to fall into a number of categories. The three common ones are: (a) Stipulations for the execution of a formal document Agreement may be reached, often verbally, and the parties then state that a formal contract will be drawn up. It is a question of construction of the agreement as a whole as to whether the initial agreement constituted the actual contract, and the formal document was intended to be merely spelling it out, or whether the execution of the formal document was intended to be a condition precedent to the validity of the contract: Von Hatzfeldt-Wildenburg v. Alexander (1912); Bianca v. Cobarro (1947); Chillingworth v. Esche (1924).

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

107

The words on the document "subject to contract" always imply that the paper in question is not intended to be a contractual document. (b) Letters of intent Again, it is a question of construction as to whether a "letter of intent" is the contractual agreement or whether it is merely an expression of pious hope, with no contractual force. (c) Terms "to be agreed" It is an important principle of law that you cannot "make a contract to make a contract". Sometimes, the parties are unwilling to agree all the terms beforehand, and at other times, it is actually impossible so to do. So, terms are left open "to be agreed later". That is one instance of a "contract to make a contract". The problem, of course, is what happens if, when the time comes, you don't agree! If a mechanism for resolving such a dispute is included, all is well – e.g. by arbitration, or a price equated to the Retail Price Index, or whatever; but if there is no such mechanism agreed, the court will have difficulty. It will be reluctant, as we have seen, to declare the whole contract void for uncertainty. If, however, the term left open for "future agreement" is fundamental to the whole contract, it will have no option. If it is an ancillary term, only the particular provision may be struck out, and the rest of the contract will be upheld; or the court may imply a customary trade or reasonable solution. We can look at three examples.  Smith v. Morgan (1971) – A contract for sale of land gave the purchasers a first option to purchase adjacent land at a price to be agreed. HELD: The vendor was bound to offer the land at the price at which he was prepared to sell.  Foley v. Classique Coaches Ltd (1934) – P owned a petrol filling station and also the adjoining land. He sold the land to D, who owned and ran coaches, on the condition that they would buy petrol exclusively from him. The agreement stated that the price of the petrol would be "agreed from time to time". D broke the agreement. HELD: That, in default of agreement, a reasonable price must be paid.  Hillas & Co. Ltd v. Arcos Ltd (1932) – P agreed to buy timber from D, at a price equated to the "official price list". The agreement contained an option for P to buy further timber next year – but no price was mentioned. HELD: Because of the previous dealings between the parties, and the original reference to the "official price list", the option was not void for uncertainty, and the price should be ascertained in the light of the normal practice in the timber trade.

Certainty of Terms
The terms of a contract must be reasonably certain. If they are too vague, the whole contract may, again, be void for uncertainty. For instance, in G Scammell & Nephew Ltd v. Ouston (1941), an agreement to buy goods "on hire purchase" was held to be void, as there were so many different kinds of hire purchase agreement that it was impossible to ascertain the true intention of the parties. However, as in Hillas & Co. Ltd v. Arcos Ltd (1932), the court will always do its best to ascertain the intention and uphold the contract. Meaningless phrases can sometimes be ignored, or disregarded as "mere surplusage": Nicolene Ltd v. Simmonds (1953).

© ABE

108

Contract Law 1: Fundamentals of Contracts and their Creation

N.B. Courts may be prepared to read into a contract terms not fully or expressly spelled out between the parties – see, for example, Att-General of Belize v. Belize Telecom Ltd (2009), and also the dicta of Lord Hoffman in Investors Compensation Scheme v. West Bromwich Building Society (1998).

C. CLASSIFICATION OF STATEMENTS AND TERMS
All but the very simplest of contracts can be broken down into a number of constituent parts – promises to do something, or to abstain from doing something else; statements of fact or of opinion; assurances of quality, quantity or performance. These are the usual points; there may be others. However, it is rare for all the terms of a contract to be actually written down or agreed between the parties. Certain things are too obvious to need mentioning; some are simply forgotten; others are matters to which the parties never gave a thought. Hence, the first classification is into "express terms" and "implied terms".

Express Terms
These are the terms of the contract which have been specifically agreed between the parties, whether in writing or verbally. Of these, some are, plainly, of greater importance than others.  Fundamental terms are those on which the whole basis of the contract rests, or the "core" of the agreement. What is, or is not, fundamental can be specifically agreed but, if it is not, it is a question of fact for the court to determine. In Barber v. NWS Bank plc (1996), the claimant, Mr Barber, was interested in purchasing a car apparently owned by a garage in October 1989. He did not have the ready finance to do so: accordingly, the garage sold the car to the defendant bank for cash and Mr Barber entered into a conditional sale agreement with the bank, whereby the car was to remain vested in the bank until he had paid all the instalments due under the agreement. Having continued to remit all the instalment payments until May 1991, Mr Barber decided to sell the car, only to discover that it was the subject of a prior finance agreement, which existed at the date of the agreement with the bank and upon which moneys were outstanding. HELD: Because of the provision in the conditional sale agreement that the car was to remain vested in the defendant bank until all payments under the agreement had been made, it was an express term and condition that the defendant bank was, at the date of the agreement, the owner of the car. Since this was not in fact so, Mr Barber was entitled to rescind the agreement and recover all the moneys he had paid under it, comprising the deposit and all instalments remitted.  Collateral or ancillary terms are those which support the fundamental terms – or, perhaps, "add flesh to the bones". They are not, in themselves, vital to the validity of the contract.

Implied Terms
Terms which, for one reason or another, have been omitted from the specific agreement often need to be put into the contract in order that it may make sense. The necessity for this was brought out in the leading case on the subject – "The Moorcock" (1889). D owned a wharf on the Thames. P owned a ship, "The Moorcock", and he agreed that she should moor at D's wharf, and be unloaded by him. While this was being done, the tide ebbed, and the ship grounded on a hidden rock, and was damaged. The contract contained no reference to such an event.

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

109

HELD: The parties must have intended that it should be a term of the contract that the berth should be safe from hazard to the ship while unloading. Lord Justice Bowen said: "Now an implied warranty, or as it is called, a covenant in law, as distinguished from an express contract or express warranty, really is in all cases founded on the presumed intention of the parties, and upon reason. The implication which the law draws from what must obviously have been the intention of the parties, the law draws with the object of giving efficacy to the transaction and preventing such a failure of consideration as cannot have been within the contemplation of either side; and I believe that if one were to take all the cases, and there are many, of implied warranties or covenants in law, it will be found that in all of them the law is raising an implication from the presumed intention of the parties with the object of giving to the transaction such efficacy as both parties must have intended that at all such events it should have." That is, perhaps, a rather long-winded way of saying that terms will be implied only if it is necessary to give business efficacy to the contract. Note that, although the courts usually imply terms which are positive (i.e. the party concerned has to do something), negative terms can be implied. Thus, in Fraser v. Thames Television (1983), the members of a group called "Rock Bottom" sued Thames Television for alleged breach of contract concerning a TV series, an implied term of which was that Thames would not use the idea for the series, which was based on the history of the group, unless the members of the group were employed as actors in the series. The court implied this negative term on the grounds that it was necessary to give business efficacy to the agreement between the parties. Terms will also be implied by custom, by statute, or by course of previous dealing.  By custom If a certain thing is customary in the particular trade, it will readily be implied into contracts in respect of that trade. The same applies if a thing is the custom in a particular district or place. In order to be implied, the custom must be "notorious, certain and reasonable" and "not offend against the intention of any legislative enactment". However, trade usage may create an implied term: Sabi v. Jetspeed (1977).  By statute Certain statutes provide that, in the absence of specific agreement, terms will automatically be implied into contracts dealing with the subject matter of the statute. The principal ones are the Sale of Goods Act 1979, the Supply of Goods (Implied Terms) Act 1973 and the Supply of Goods and Services Act 1982.  By a course of previous dealing It may be clear (or a matter of dispute!) whether a term can be implied from the same parties having agreed on a previous occasion.

Representations
These are statements of fact made by one or more parties to the agreement. Statements of law or of opinion are not, strictly speaking, "representations".

© ABE

110

Contract Law 1: Fundamentals of Contracts and their Creation

Conditions
"Conditions" are terms of the agreement which are of primary importance. Fundamental terms will, invariably, be conditions – although not all conditions are necessarily fundamental. It can be, and often is, stated in a written contract that certain terms are "conditions". Indeed, in most leases of property, it is stated that all terms are "conditions". The reason for so stating is that the remedies available in the event of a breach of a condition are more extensive than for breach of a less important term. If the contract does not specifically state which terms are conditions, that is then a question of fact for the court to determine The breach of a condition usually allows the injured party to rescind the contract (rescission), as well as to seek damages for loss he/she has suffered as a result of the breach. Rescission is, in effect, declaring the contract cancelled, and refusing either to carry on with its performance or to be bound by its stipulations.

Warranties
A warranty is a less important term of the contract, the breach of which normally allows the injured party to seek only damages. However, in the case of breach of either a condition or a warranty, the "equitable" remedies of "specific performance" or "injunction" (i.e. a court order decreeing "do this" or "do not do that", respectively) may also be available to the party not in breach. These will be dealt with in a later chapter, when we discuss remedies for breach of contract. Once again, if the parties do not state whether a term is a condition or a warranty, the court's job is to decide for them. In Bettini v. Gye (1876), B contracted with G (who was a director of an opera company) for B's exclusive services as a singer. One of the terms was that B should be available for rehearsals for at least six days before the beginning of the opera season. B turned up in London only two days beforehand and, therefore, G rescinded the contract. HELD: That, in view of the length of the engagement, and all other circumstances, it could not reasonably be inferred that it was the intention of the parties that six days for rehearsals was a vital ingredient of the agreement. It was, therefore, only a warranty, and G was not entitled to rescind the contract. Finally, a word of warning: the terms "condition" and "warranty" are not universally applied. For instance, in insurance contracts, the word "warranty" has, from time immemorial, been applied to essential terms. Breach of an insurance warranty usually gives the insurance company grounds for rescission. The House of Lords, (now the Supreme Court) has railed against this anomaly but to no avail. It is too entrenched for even such an august body to change! Occasionally, at the outset, it may be very difficult/impossible to classify a term as either a condition or a warranty. Some undertakings may adopt an intermediate position, in that the term can only be assessed in the light of the consequences of a breach. Hence, if a breach of the term results in extreme loss and damage, the injured party will be entitled to repudiate the contract. However, where the breach involves minor loss, the injured party's remedies will be restricted to damages. These intermediate terms are also known as Innominate Terms. See:     Hong Kong Fir Shipping Co. v. Kawasaki Kisen Kaisha (1962) The Mihalis Angelos (1971) Reardon Smith Line v. Hansen-Tangen (1976) The Hansa Nord (1976)

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

111

Bunge Corporation v. Tradax Export (1981).

N.B. If a term is described in the contract as a “condition”, that in itself may not be conclusive: Schuler v. Wickman Machine Tools (1974).

D. CONSIDERATION
We have seen that "consideration" is an essential element of a valid contract in English law. In certain other jurisdictions, this is not the case; however, historically, the common law of England has always viewed a contract as a bargain. Both sides must give something. The only exception to this rule is in the case of contracts under seal – "specialty" contracts. These do not require to be supported by consideration in order that they may be enforced by the courts. A number of rules have grown up in the doctrine of consideration and in practice, in commercial contracts consideration is invariably present. The subject is a favourite examination one. There have been repeated proposals for abolishing consideration as a requirement in all or at least in written contracts.

Definitions
There are various types of consideration – "good", "valuable", "nominal", and "bad". In order to be valid, consideration must be both "good" and "valuable". Valuable consideration is where some benefit is given or some detriment suffered. It is only consideration which is valuable in the eyes of the law which is sufficient to support a valid contract – although it must also be good, in the sense that it is not forbidden, or "bad". A definition given in Currie v. Misa (1875) was as follows: "A valuable consideration, in the sense of the law, may consist either in some right, interest, profit or benefit accruing to the one party, or some forbearance, detriment, loss or responsibility given, suffered, or undertaken by the other." A shorter but less precise definition given by Sir Frederick Pollock, which has been approved by the House of Lords (now the Supreme Court), is: "The price for which the promise is bought". So, the essential feature is that there must be either some benefit accruing to the "promisor" (that is, the person who makes a promise) or some detriment accruing to the "promisee" (the person who receives a promise). Usually, the benefit and the detriment are the same thing, looked at from the different viewpoints of the parties. If I buy a book from you for £1, then £1 is a benefit to you and a detriment to me. On the other hand, the book is a detriment to you (because you no longer have it) and a benefit to me. Types of consideration There are three types of consideration. (a) Executory consideration This occurs where the parties exchange promises. For example, "I promise to pay you £100 provided you promise to service my car". The contract comes into existence from the moment the promises are exchanged, but its performance remains in the future. To this end, executory literally means “yet to be done”. (b) Executed consideration This type of consideration arises when one party to a contract has performed his side of the deal and the other party has yet to perform his or her side of the deal. For example, acceptance of a unilateral offer to the world at large as in Carlill v. Carbolic Smoke Ball Co. (1893).

© ABE

112

Contract Law 1: Fundamentals of Contracts and their Creation

(c)

Past consideration Past consideration is not good consideration as demonstrated by Re McArdle (1951). In this case, a number of children were entitled to a house on the death of their mother. Whilst the mother was still alive, the son and his wife had lived with her, and the wife had made various improvements to the house. The children later promised that they would pay the wife £488 for the work she had done. It was held that, as the work had been completed at the time when the promise was given, it was past consideration. Consequently, the later promise to pay her £488 for the work she had done on their mother's house could not be enforced.

Principles governing consideration Consideration is governed by three main principles: (a) Consideration need not be adequate, but must have some value The courts do not, in general, ask whether “adequate value” has been given in return for the promise, or whether the agreement is harsh or one-sided. This is what is meant by saying that “consideration need not be adequate”. In Chappell & Co. Ltd v. Nestlé Co. Ltd (1960), Nestlé manufactured chocolate. As a promotional gimmick, the company offered to sell a gramophone record to anyone who applied, for the sum of 1s 6d (7½p) plus three of the wrappers from its bars of chocolate. The wrappers themselves were of insignificant value and on receipt they were, in fact, thrown away by Nestlé. HELD: The wrappers formed part of the consideration for the sale of the records. Where the consideration, although of some value, is insignificant in relation to the transaction, it is called "nominal consideration". In Pitt v. PHH Asset Management Ltd (1994), a property known as The Cottage was advertised for sale at £205,000. There were two persons interested in purchasing it, Mr Pitt, the claimant and a Miss Buckle. They entered into a "contract race" for the property. Mr Pitt made an offer of £200,000, subject to contract, which was refused upon receipt of an improved offer of £210,000 from Miss Buckle. The following day Mr Pitt telephoned the handling estate agent and advised him that he would seek an injunction to prevent the sale to Miss Buckle and that he was able to exchange contracts as soon as the agent wanted. The agent referred the matter to his principal, the defendant company, who owned the property and thereafter told Mr Pitt that the sale to him at £200,000 could proceed, subject to contract and that no other offer would be considered, provided contracts were exchanged within 14 days. Despite this "lock-out" agreement, the property was sold to Miss Buckle thereafter at £210,000. HELD: The claimant, Mr Pitt, was entitled to damages for breach of the "lock-out" agreement, even though the sale was subject to contract. The agreement was a contract not to negotiate with anyone except Mr Pitt for 14 days, the consideration being the withdrawal of his threat to seek an injunction and the commitment by Mr Pitt to an exchange of contracts within 14 days to bind the sale. However, it should be noted that, although consideration need not be adequate, it must be real. It must be capable of being quantified and having its value estimated by the law: Midland Bank Trust v. Green (1981). Two examples of consideration, which is not real and therefore, not good are:  "In consideration of natural love and affection": Bret v. J S (1600)

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

113

A promise by a son that, if his father would release him from a debt, the son would cease to bore his father with his complaints: White v. Bluett (1853).

Consideration that is impossible to give or perform is also not good; likewise, consideration that is discretionary. If the promisee can perform his side of the bargain "if he likes", or "unless he changes his mind ", consideration is not good. On the other hand, an undertaking by a manufacturer to sell his entire output to one buyer was held to be binding, notwithstanding the fact that the manufacturer did not bind himself to have any output: Donnell v. Bennett (1883). The distinctions can be fine. It is, really, a question of whether the court can find some quantifiable value in terms of money, benefit or detriment in the transaction to justify the desire to give effect to the intentions of the parties, and uphold the contract. Consideration is much easier to imply in commercial contracts than in domestic ones. However, one type of consideration does not have any value in the eyes of the law, and that is if it is illegal. In point of fact, a contract that is illegal is void. However, whether this is because the consideration is bad or because the enforcement of illegal contracts is "contrary to public policy" is an arguable point. (b) Consideration must not be past This category does not usually count as valid consideration i.e. it is insufficient to make any agreement which is based on it a legally binding contract. Normally, consideration is provided either at the time of the creation of the contract or at a later date. However, in the case of past consideration, the action is performed before the promise that it is supposed to be the consideration for. Such action is not sufficient to support a promise, as consideration cannot consist of any action already wholly performed before the promise was made. A party to a contract cannot use a past act as a basis for consideration. Therefore, if one party performs an act for another and only receives a promise of payment after the act is completed, the past act would be past consideration. The classic situation involving past consideration is illustrated by the case of Re McArdle (1951). The buyer of an article cannot sue on a guarantee given by the seller after the contract of sale has been made. The consideration for the promise of guarantee is past. In Roscorla v. Thomas (1842) it was held that the seller's guarantee that the horse sold to the buyer was "sound and free from vice" could not be enforced against him since it had been given after the sale had been concluded. In other words, the guarantee did not form part of the consideration for the sale of the horse. A similar principle applies where a person agrees to perform some service for another and, after the work has been completed, the second person agrees to pay for the service. The courts would have little hesitation in saying that since the service had been performed before there had been any mention of payment, the consideration was past and the promise unenforceable. On the other hand, an act performed before the giving of a promise can be consideration, if the act was done at the request of the promisor. The request implies a promise of benefit to follow. In Lampleigh v. Braithwait (1615), Braithwait was languishing in gaol. He requested Lampleigh to try to obtain for him a pardon from the King. In his efforts to achieve this, Lampleigh incurred expense. Braithwait subsequently promised to pay £100 for his trouble. He then refused to pay. HELD: Although the consideration for the promise to pay was past, nevertheless it was good. A promise of payment could be implied from the request for services.

© ABE

114

Contract Law 1: Fundamentals of Contracts and their Creation

The determination of whether the consideration is past is a question of fact for the court. It does not have to follow the strict chronological events. Provided the making of the promise and the consideration for it are substantially one transaction, this will suffice. Nor is the wording of the promise decisive. A promise "in consideration of your having today advanced £750" was binding on proof that the advance had, in reality, been made at the time of the promise: Goldshade v. Swan (1847). However, there are a number of exceptions to the rule that past consideration will not support a valid contract. For example, under Section 27 of the Bills of Exchange Act 1882, past consideration can create liability on a bill of exchange; and under Section 29 of the Limitation Act 1980, a time-barred debt becomes enforceable again if it is acknowledge in writing. Also, where the plaintiff performed the action at the request of the defendant and payment was expected, then any subsequent promise to pay will be enforceable. Thus in Re Casey's Patents (1892), the joint owners of patent rights asked Casey to find licenses to work the patents. After he had done as requested they promised to reward him. When one of the patent holders died, his executors denied the enforceability of the promise made to Casey on the basis of past consideration. It was held that the promise made to Casey was enforceable. There had been an implied promise to reward him before he had performed his action and the later promise simply fixed the extent of that reward. (c) Consideration must be sufficient The rule is consideration need not be adequate but it must be “sufficient” i.e. it must have some value in the eyes of the law. It is up to the parties themselves to decide the terms of their contract, as the courts will not intervene to require equality in the value exchanged, as long as the agreement concerned has been freely entered into, as evidenced by the case of Thomas v. Thomas (1842). In this case the executors of a man's will promised to let his widow live in his house, in return for rent of £1 per year. It was held that £1 per year was “sufficient consideration” to validate the contract, although it did not represent adequate rent in economic terms.

Consideration Must "Move" from the Promisee
This rule means that a person can enforce a promise only if she can show that she herself gave the consideration for it. However, the consideration in the sense that it is a detriment to the promisee does not have to benefit the promisor. The detriment by itself is sufficient. (Note: Do not confuse this with the doctrine of privity, which we shall look at later.) In Tweddle v. Atkinson (1861), two young people got married. Afterwards, their respective fathers entered into an agreement whereby they both would pay a sum of money to the husband, who should have the right to sue for the sums. Both fathers subsequently died. The husband then sued the executors of one of them for the sum due. HELD: No consideration had moved from the husband – so, the promise to pay was, as far as he was concerned, gratuitous. Conversely, if the consideration is a benefit to the promisor, this does not mean that the promisee need necessarily suffer a detriment. However, because of the rule that it must move from the promisee, if the benefit to the promisor was, in fact, provided by some third party, then the promisee cannot sue upon it.

Forbearance to Sue as Consideration
A promise to refrain from suing either a debtor or a third person may be sufficient consideration to support a promise of some act or thing by the debtor or the third person, as the case may be. This need not involve a waiver or a compromise of the ultimate right of action against them. A temporary forbearance may suffice.

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

115

In Alliance Bank v. Broom (1864), Broom was asked to give security for money advanced to him by the bank. He promised to assign some documents of title to goods but failed to do so. The bank sued for specific performance – i.e. an order compelling Broom to assign the securities. HELD: The bank was entitled to the order. Although it had not promised that it would not sue for the debt, the act of requesting security did, in effect, give Broom the benefit of some measure of forbearance, which he would not otherwise have had. This forbearance, albeit unquantifiable in time, was sufficient consideration for the promise to assign the documents. However, for forbearance to sue to be consideration, some liability must exist – or, at least, be thought to exist. If the party forbearing to sue knows that his claim is, in fact, invalid, his forbearance to attempt what it is impossible to achieve is not valid consideration: Callisher v. Bischoffsheim (1870). Furthermore, the forbearance to sue must be connected with the debtor's promise for it to constitute good consideration. If the creditor refrains from taking legal action in respect of a debt, which is already in existence – an antecedent debt – this is not sufficient to support a further promise. In Wigan v. English & Scottish Law Life Assurance Society (1909), a debtor mortgaged an insurance policy to his creditor to secure a debt. However, he left the executed document with his solicitors. The solicitors managed to get extra time for payment without disclosing to the creditor the existence of the mortgage. Only after the debtor's death did the creditor hear about it. HELD: The creditor had not given consideration for the interest he acquired (by virtue of the mortgage) in the insurance policy. Thus, he could not reimburse himself out of the proceeds of the policy. The reasoning for the decision was that, as the existence of the security was unknown to the creditor, it could not be claimed that his forbearance to sue was given in response to the promise of executing the mortgage. Forbearance to sue can, thus, be good consideration. However, it will not be so if the forbearance itself is forbidden by law, either as being contrary to public policy or to statute. For example, under the Matrimonial Causes Act 1973, a wife cannot bind herself by contract not to apply to the court for maintenance in matrimonial proceedings (that would be ousting the jurisdiction of the court). So, any promise to forbear could not be enforced.

Is the Performance of an Existing Statutory Duty Sufficient Consideration?
In certain circumstances only, the performance of an existing duty can be good consideration to support a further promise. In general, if a person has a legal obligation to do a certain thing, the doing of that very thing can neither be a detriment to him/her nor a benefit to a promisor. The case of Collins v. Godefroy (1831) establishes that the performance of an existing statutory duty is not sufficient consideration to establish a contract. In this case, the plaintiff had attended on subpoena to give evidence on the defendant's behalf in a case in which the defendant was a litigant and he alleged that the defendant had promised to pay him six guineas for his trouble. Lord Tenterden held that there was no consideration for this promise, stating the following: "If it be the duty imposed by law upon a party subpoenaed, to attend from time to time to give his evidence, then a promise to give him any remuneration for loss of time incurred in such attendance is a promise without consideration."

Is the Performance of an Existing Public Duty Sufficient Consideration?
In this situation, performance beyond that already legally required is capable of amounting to sufficient consideration: Harris v. Sheffield United Football Club (1987). In this case, the defendants argued that they were not obliged to pay for a large number of policemen who

© ABE

116

Contract Law 1: Fundamentals of Contracts and their Creation

attended their ground at home matches, because a major police presence at the ground was necessary to preserve law and order. The Court of Appeal thought that the defendants had voluntarily chosen to put their matches on at times, typically Saturday afternoons, when large attendances and therefore larger possibilities of disorder were likely and when a substantial police presence could only be achieved by calling policemen off rest days and paying large sums of overtime. It was therefore held that the police authority was entitled to be paid. In Glasbrook Brothers Ltd v. Glamorgan County Council (1925), the police were under a public duty to protect a coal-mine during a strike. At the request of the manager, they provided a stronger guard than they considered necessary – but for an agreed price. HELD: The extra protection was good consideration for the promise to pay the price. "The House of Lords, while agreeing that it was the duty of the police 'to give protection to the person and the property of all ... subjects', nevertheless, felt that, if a person gets special police protection as a result of a promise to pay for it, there is consideration and the promise is thus enforceable."

Is the Performance of an Existing Contractual Duty Sufficient Consideration?
Generally speaking, no. The reason for this is that consideration cannot be present if the promisee merely performs an obligation that he/she is already bound by contract to perform.  Stilk v. Myrick (1809) Two seamen deserted from a ship. The captain was unable to replace them, so he promised the remaining crew that he would share out with them the wages of the deserters, if they would work the ship back to London. However, when the ship eventually reached London, the owners refused to make the promised payment. HELD: That the captain's promise could not be legally enforced, as the sailors had only done what they were already obliged to do by their contracts of employment. However, on similar facts, the decision was otherwise where the crew did more than they were contractually bound to do, or in a different manner.  Hartley v. Ponsonby (1857) A ship became so shorthanded that it was unsafe to continue with the voyage. The captain, therefore, discharged all the remaining crew from their contracts, and offered them new contracts at higher wages if they would continue with the voyage. HELD: The consideration for the promise of higher wages was good. Despite the clear difference between these two cases, the law may not be entirely clear on the point.  Williams v. Roffey Bros & Nicholls (1990) Roffey Bros had entered into a contract to refurbish a block of flats and subcontracted with Williams to carry out carpentry work for a fixed price of £20,000. It soon became apparent that Williams was in such financial difficulties that he might not be able to complete the work on time, with the consequence that Roffey Bros would be subject to a penalty clause in the main contract. Consequently, Roffey Bros offered to pay Williams an additional £575 for each flat he completed. On that basis, Williams carried on working, but when it seemed that Roffey Bros were not going to pay him, he stopped work and sued for the additional payment in relation to the eight flats he had completed after the promise of additional payment. The Court of Appeal held that Roffey Bros had enjoyed practical benefits as a consequence of their promise to increase Williams' payment: the work would be completed on time; they would not have to pay any penalty; and they would not suffer

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

117

the bother and expense of getting someone else to complete the work at short notice. These benefits were sufficient, in the circumstances, to provide consideration for the promise of extra money and Williams was held to be entitled to recover the extra money owed to him. Although the Court of Appeal did not overrule Stilk v. Myrick, it is clear that its sphere of relevance will be curtailed by the application of Williams v. Roffey Bros (1990). As a result of the Court of Appeal's decision in Williams v. Roffey Bros (1990), it now appears that the performance of an existing contractual duty can amount to consideration for a new promise in circumstances where there is no question of fraud or duress, and where practical benefits accrue to the promisor. Moreover, another possible result of the court's decision in Roffey Bros is that the performance of a contractual duty may, indeed, be good consideration, particularly if the other party has a special need to have the contract performed in a particular manner or by a specified date. Contrast Atlas Express Ltd v. Kafco (Importers and Distributors) Ltd (1989). Here a small company entered into an agreement with a national firm of carriers. The carriers subsequently purported to impose higher charges than previously agreed. Because the company was unable to find an alternative carrier and was heavily dependent on the contract, it reluctantly agreed to the new terms, but later refused to pay. HELD: The facts constituted economic duress (see later), but the courts also refused to enforce the new agreement for the higher charges as it lacked any fresh consideration from the purchasers, Atlas. The carriers' claim for additional payment was, therefore, dismissed.

Discharge or Variation of Existing Duties
The problem here is whether an agreement to accept some different performance of the contract from that originally agreed, or a full release from the contract, constitutes consideration. If the discharge or variation involves a mutual alteration of rights or obligations, there is no difficulty. The consideration is the giving-up of rights by one party in exchange for the relinquishment of other rights by the second party. However, if one of the parties has fully performed his obligations, there is, on the face of it, no consideration for his agreeing to release the other party from his outstanding obligations. Where the contract is varied, there are three likely situations – as follows.  The parties may agree to terminate their contract and enter into a fresh one, imposing different rights and duties. As we have seen from Hartley v. Ponsonby (1857), above, this course provides good consideration. The parties may vary their contract in such a manner that the variation may affect the rights or obligations of either of them, according to how things turn out in practice. In this case, the possible benefit or detriment is the respective consideration for the promises of each of them. The agreement to vary the contract may confer benefit on one party only. Here, the strict rule must apply, and no consideration be deemed to be present.

There is, however, a possible let-out to this strict application, which has been developed by equity. The principle here is this: if one party has led the other to believe that she will not enforce her strict rights, and the other party has incurred expense or loss in reliance on that promise, then it would be inequitable to permit the first to go back on her promise. In Hughes v. Metropolitan Railway (1877), a landlord gave notice requiring his tenant to do repairs within six months. During this period, he negotiated with the tenant for the purchase by the tenant of the lease. The negotiations broke down, whereupon the landlord sought to forfeit the lease, because the repairs had not been done.

© ABE

118

Contract Law 1: Fundamentals of Contracts and their Creation

HELD: He could not do this, as the tenant had relied on the negotiations and, so, neglected to safeguard his legal position by executing the repairs. The landlord was bound to give a further six months' notice to repair before forfeiting the lease. Breaking this case down, the variation of the contract was the implied promise by the landlord not to enforce his strict contractual rights to insist on repairs. This benefited one party only – the tenant. There was, therefore, no consideration for the promise. However, the tenant, having relied upon it, did not start doing the necessary repairs until it was too late. The equitable principle of "fair dealing" overrode the strict legal requirement for consideration. Therefore, the landlord was not permitted to break his promise by relying on the technical legal requirement. The landlord was not permanently prevented from insisting on his rights; he merely had to give the necessary notice again after the equitable disability had disappeared.

Part-payment of a Debt
If a creditor promises to accept part-payment of a debt in settlement of the whole, there is no consideration for the promise. He is, therefore, not bound by it, and can sue for the balance. This was established as early as 1602, in Pinnel's Case, where it was held that "payment of a lesser sum on the day in satisfaction of a greater sum cannot be any satisfaction for the whole". The rule in Pinnel's Case was approved by the House of Lords in Foakes v. Beer (1884). Mrs Beer got judgment for a debt from Dr Foakes of about £2,000. Some months later, Dr Foakes asked for time to pay, and Mrs Beer agreed in writing not to enforce the judgment, provided Dr Foakes paid by certain instalments. This, he duly did. After the £2,000 had been repaid, Mrs Beer claimed interest on the judgment debt. HELD: She was entitled to it. The rule in Pinnel's Case ensured that payment of the lesser sum (i.e. without the interest which a judgment debt always allows) was not a discharge of the whole. There was no consideration for her promise to accept payment by instalments – so, she was not bound by the fact that the promise did not include the interest. The apparent harshness of this rule, which can not only cause hardship, but also produce absurd results, has been much criticised. In 1881, the then Master of the Rolls had the following to say about the rule in Pinnel's Case. "According to English Common Law, a creditor might accept anything in satisfaction of his debt except a less amount of money. He might take a horse, or a canary, or a tomtit if he chose, and that was accord and satisfaction; but by a most extraordinary peculiarity of the English Common Law, he could not take 19s 6d (97½p) in the pound." However, there are four exceptions to the rule in Pinnel's case (1602): (a) Early payment of a reduced amount, if agreed by the creditor Where there is a promise by the debtor to pay the reduced sum earlier than the date on which the full debt falls due, then provided the creditor agrees to it, this will be legally binding. If payment of a smaller sum is made at an earlier date than that required and it is accepted, then that can be satisfaction for the whole debt as demonstrated by the facts of Pinnel's case (1602). In this case the plaintiff, Pinnel, sued Cole in debt for £8 10s due on a bond on 11 November 1600. Cole's defence was that, at Pinnel's request, he had paid him £5 2s 6d on 1 October, and that Pinnel had accepted this payment in full satisfaction of the original debt. The court in this case found in favour of Pinnel, but made it clear that “but for” a technical flaw they would have found in favour of the defendant Cole. See also: Ferguson v. Davies (1996); Re. C (co Debtor) (1996).

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

119

(b)

Substituted performance This arises where the creditor accepts some other form of consideration instead of money, such as the delivery of goods. Alternatively, payment of a lesser sum together with an additional element, such as a promise to repair the creditor's car, would suffice.

(c)

Payment of a lesser sum where the debtor is disputing the value of the work that has been performed, and the creditor accepts the reduced amount The reason why the creditor is bound by such an arrangement is that, if the dispute were to be resolved by court action, the court might determine the value of the work performed as worth even less than the debtor offered to pay. Accepting the reduced sum may be seen as a new bargain.

(d)

Where the equitable doctrine of promissory estoppel applies Central London Property Trust Ltd v. High Trees House Ltd (1947): The equitable doctrine of promissory estoppel was explained and applied by Denning in the case of the High Trees case and operates as an exception to the principle that part payment of a debt cannot be satisfaction of the whole of the debt and that, accordingly, a debtor is not obliged to pay the balance of the contractual debt to the creditor. In the High Trees case, the plaintiffs had granted a 99-year lease of a block of flats from 1937 at a rent of £2,500 per year. Because of wartime conditions the defendants were unable to let all of the flats during the war and, consequently, the plaintiffs agreed to reduce the rent by half. By the end of the war the flats were fully let again. In an important obiter dictum in his judgement, Denning J. considered that the wartime agreement between the two parties was binding – in other words, that the plaintiffs would not be able to recover the full rental for the wartime period. He said that the plaintiffs were estopped (i.e. prevented) from claiming the rent on the basis that a promise, which was intended to be binding and intended to be acted upon, which was acted upon, is binding in the sense that the courts will not allow the promisor to act inconsistently with that promise. The essence of this decision is that the principle of High Trees applies where it is equitable to apply it. Estoppel is a concept known both to law and equity; estoppel at common law is commonly concerned with preventing a person from denying the existence of facts which he himself previously asserted; as a rule of evidence it debars him from leading evidence to rebut his own earlier assertion, where another, in consequence thereof, has acted to his detriment on the faith of the assertion. Promisory estoppel is not concerned with facts but with promises and intentions. For a case on a total failure of consideration, see Gledo Van Den Garde BV v. Force India Formula One Team (2010).

E. THE INTENTION TO CREATE LEGAL RELATIONS
The courts will not enforce any contract unless it is clear that the parties intended to be legally bound by their agreement. It is presumed that this is the intention in normal commercial contracts and that it is not the intention in respect of domestic and social agreements. However, each of these presumptions is rebuttal, for which, see Tanner v. Tanner (1975).

Commercial Agreements
In all commercial agreements, the presumption is that the parties intend to create legal relations. With these agreements there is a strong presumption that the parties intend to enter into a legally binding agreement in consequence of their dealings. However, In commercial

© ABE

120

Contract Law 1: Fundamentals of Contracts and their Creation

situations, the presumption is so strong that it will usually take express words to the contrary to avoid its operation, as demonstrated by the case of Frank Co v. Crompton Bros (1925). In this case, it was held that an express clause stating that no legal relations were to be created by a business transaction was effective in rebutting the presumption that it was a commercial agreement, which the parties intended to be legally enforceable in the event of breach. Another example is agreements, such as football pools coupons, which are stated to be “binding in honour” only: Jones v. Vernon's Pools Ltd (1938). In this case, the conditions of entry of a football pool competition stated that the sending in of the coupon should not give rise to any legal relationship and that the arrangements of the pool were “binding in honour only”. The plaintiff claimed to have sent in an entry, but the defendants denied having received it; it was conceded that, had it been received, it would have won a prize. The judge, Atkinson J, said the agreed conditions (i.e. that the arrangement was “binding in honour only”) prevented the plaintiff from succeeding in his claim; there was clearly no intention to create legal relations, and it was consequently unnecessary to decide the issue of fact. However, whether the particular words used have the effect of so negating contractual intent is a question of legal construction of the contract. In Edwards v. Skyways Ltd (1964), the company told an employee whom it was going to dismiss that he would receive an "ex gratia" payment. HELD: The words did not mean that contractual intent was negated. They were only a denial by the company that it previously had any legal liability to pay the amount.

Domestic and Social Agreements
In all domestic and social agreements, the presumption is that the parties do not intend to create legal relations. With these agreements, the presumption is that the parties do not intend to create legal relations when they exchange promises. From the outset, it is essential to realise that the intention not to create legal relations in such relationships is only a presumption and that, as with all presumptions, it may be rebutted by the actual facts and circumstances of a particular case. Rarely, if ever, do social agreements give rise to the implication that legal consequences were intended. The winner of a golf competition had no legal right to the prize, because no one connected with the competition intended such results to flow from the entry of competitors: Lens v. Devonshire Club (1914). In the case of agreements between members of a family, some are and others are not intended to have legal consequences. There is no reason why a husband cannot contract with his wife, or a father with his son. However, on the other hand, such pacts are frequently not meant to have this effect. It is, obviously, much easier to imply contractual intent in an agreement between two commercial organisations operating at "arm's length" than it is between immediate members of a family. As always, if the situation is not expressly stated, the court has to construe the agreement, and all the circumstances surrounding it. In Balfour v. Balfour (1919), the wife of a man working in Ceylon had to remain in England for medical reasons. Her husband promised to pay her an allowance of £30 a month. HELD: The agreement was not intended to have legal force (also, the wife had not provided any consideration for the promise). However, a case which is in direct contrast to the above case is Merritt v. Merritt (1970), where the husband left the matrimonial home, which was in joint names of husband and wife and subject to a building society mortgage, to live with another woman. The husband and wife met and had a discussion in the husband's car, during which the husband agreed to pay the wife £40 a month, out of which she must pay the outstanding mortgage payments on the house. The wife refused to leave the car until the husband recorded the agreement in writing

© ABE

Contract Law 1: Fundamentals of Contracts and their Creation

121

and the husband wrote and signed a piece of paper which stated “in consideration of the fact that you will pay all charges in connection with the house…until such time as the mortgage repayment has been completed I will agree to transfer the property to your sole ownership”. After the wife had paid off the mortgage the husband refused to transfer the house to her. It was held by the Court of Appeal that the parties had intended to affect their legal relations and that an action for breach of contract could be sustained. A different situation may arise in the "pools syndicate" type of agreement. It is quite a widespread practice for members of a household, a group of friends, or employees in a business to participate on a regular basis in a football pools scheme or some other form of prize competition. A leading case is Simpkins v. Pays (1955). The defendant owned a house in which she lived with X, her grand-daughter, and the claimant, a paying boarder. The three took part together, each week, in a competition organised by a Sunday newspaper. The entries were made in the defendant's name, but there was no regular rule as to the payment of postage and other expenses. One week, the entry was successful and the defendant obtained a prize of £750. The claimant claimed a third of this sum but the defendant refused to pay, on the ground that there was no intention to create legal relations but only a friendly adventure. Judgment was given for the claimant. The court held that there was an intention to create legal relations, and it was "a joint enterprise to which each contributed in the expectation of sharing any prize that was won". In contracts or agreements between more distant family members than husband and wife, contractual intent is easier to imply. For instance, a lady added an extra room to her son-inlaw's house at a cost of £600. There was an understanding between them that she should live there for the rest of her life. However, after about a year, she left of her own accord. It was held that, although there was a contract to permit her to reside for her lifetime, there was no intention that the cost of £600 should amount to a contract of loan: Hussey v. Palmer (1972).

Other Cases
The issuing of "free travel" passes by transport undertakings may or may not be intended to be contractually binding. Such a pass issued to an employee "as a matter of course" and as one of the "perks" of the job will, probably, not have contractual force: Wilkie v. LPTB (1947), whereas one issued to an old-age pensioner and written in legal language will, probably, be binding: Gore v. Van der Lann (1967). If a statement is made in anger or as a jest, this fact may well negative contractual intent. So, as always, it is a question of the proper construction of the contract to ascertain the intention of the parties.

F.

CAPACITY TO CONTRACT

In general, anybody over the age of 18, who, at the time, is sober and mentally unimpaired, is capable of contracting. This also applies to corporations which can contract in exactly the same way as living persons – but, of course, they must do it through the agency of a human being. A corporation can contract under its corporate seal or by parol. However, certain categories of person have no capacity (or only limited capacity) to contract.

Minors
By the Family Law Reform Act 1969, a minor is a person under the age of 18 years. She becomes adult at the beginning of her 18th birthday – i.e. at one minute past midnight.

© ABE

122

Contract Law 1: Fundamentals of Contracts and their Creation

There are two circumstances in which contracts with a minor may be unenforceable:  Most contracts with a minor are "voidable" at her option. That is to say, she, but not the other party, has the right not to be bound by the contract. To be voidable, she must repudiate the contract during her minority, or within a reasonable time after reaching her majority. If not, the contract will become binding. This category covers the majority of contracts into which a minor enters, except those mentioned below. So, it is at the minor's option whether she wishes to be bound by her contract or not. In Smith v. King (1892), a minor became liable to a firm of brokers for £547. After he reached his majority (then 21) the firm sued, and he compromised by giving two bills of exchange for £50. One of the bills was endorsed to Mr Smith, who took it in ignorance of the circumstances. HELD: The debt was contracted during minority and, so, it was voidable.  Some contracts are, by statute, unenforceable against a minor. For example, under the Consumer Credit Act 1974, it is an offence to send literature to a minor inviting him/her to borrow money or obtain goods or services on credit. An exception to this general rule exists where the money borrowed has been used for the purchase of necessaries (see below). In this case, the lender can recover such part of the loan as was actually spent on necessaries. Where an adult guarantees a loan to a minor then, prior to 1987, that guarantee would be treated as unenforceable. Now, however, Section 2 of the Minors' Contracts Act 1987 provides that such a guarantee shall no longer be treated as unenforceable merely because the contract with the minor cannot be enforced. Section 3 deals with the situation where a minor acquires goods under an unenforceable or repudiated contract. The courts are empowered to order restitution of the property "if it is just and equitable to do so". The important difference between this provision and the former power contained in the Infants Relief Act 1874 is that the court is no longer restricted to cases where the minor has acted fraudulently, e.g. giving a false age in order to obtain a loan. However, contracts for "necessaries" are binding on a minor. Necessaries are those things a person immediately needs, such as food; drink; clothing; accommodation; medicines. Necessaries are not confined to those things which are absolutely required to keep him alive, but they extend to all such things as are reasonably necessary for him in the station in life to which he belongs. They exclude luxuries, and also a surplus of necessary items (e.g. a contract to buy two shirts would, probably, be binding but one for a dozen would not be.) In Nash v. Inman (1908), the claimant was a West End tailor and the defendant was a minor undergraduate at Trinity College, Cambridge. The claimant sued the minor for the price of various items of clothing, including eleven fancy waistcoats. It was proved that the defendant was well supplied with such clothes when the claimant delivered the clothing in question. Accordingly, the claimant's action failed, because he had not established that the clothes supplied were necessaries. Other contracts binding on a minor are those which are beneficial for him/her, such as contracts of apprenticeship or service, or education.

Mentally-disordered and Drunken Persons
Except for contracts for necessaries, contracts are not binding on such persons, unless they specifically ratify them during a lucid period (in the case of a mentally disordered person) or when sober.

© ABE

123

Chapter 6 Contract Law 2: Contract Regulations
Contents
A. Privity of Contract Attempts to Confer Rights on Third Parties Attempts to Impose Liabilities on Third Parties Exceptions to and Avoidance of the Privity Rule Recent Developments

Page
125 125 126 128 129

B.

Joint Obligations Definitions How Joint Liability Arises Effects of Joint Liability

130 130 130 130

C.

Assignment Background and Definition Statutory Assignments Equitable Assignments Provisions Applicable to both Statutory and Equitable Assignments

131 131 132 132 132

D.

Mistake Common Mistake Unilateral Mistake Mutual Mistake "Non Est Factum"

133 134 136 137 139

E.

Misrepresentation Rules Types of Misrepresentation

140 140 142

F.

Undue Influence Duress Undue Influence

143 143 145

(Continued over)

© ABE

124

Contract Law 2: Contract Regulations

G.

Void and Illegal Contracts Objects Illegal by Statute Gaming and Wagering Objects Illegal at Common Law

146 146 147 148

H.

Exclusion Clauses What is an exclusion clause? Common Law Unfair Contract Terms Act 1977 Unfair Terms in Consumer Contracts Regulations 1999

154 154 154 156 158

© ABE

Contract Law 2: Contract Regulations

125

A. PRIVITY OF CONTRACT
It is a fundamental principle of law that two people cannot, by a contract, impose liabilities on, or bind, a third party; nor can anybody have rights or obligations imposed upon him/her by a contract, unless he/she is a party to it. This principle is called privity of contract. Sometimes, this rule can cause absurdities or injustice, and, in appropriate cases, the law has found ways around it. However, the general principle is of great importance. Let us state it in another way. Only the parties to a contract can enjoy rights or acquire obligations under that contract. Again, there have been repeated suggestions that a named third party would be able to take the benefit of the contract. However, in Midland Silicones v. Scruttons (1962), a sub-contractor had to pay the full loss to the owner of goods. A limitation in both his and the main contract did not help him against someone he had no contract with. The application of the rule takes two forms.

Attempts to Confer Rights on Third Parties
The problem usually arises when third parties attempt to sue to enforce rights they think they have acquired under a contract to which they are not a party. The law will not permit them to sue. In Price v. Easton (1833), a man owed Price a sum of money. He agreed with Easton that he would work for him, if Easton would pay off his debt to Price. The work was duly done, but Easton failed to pay Price. Consequently, Price sued Easton. HELD: Price could not recover the money, because he was not a party to the contract for work. At this early stage of the development of the doctrine, it could be – and, indeed, was – argued that the reason why Price could not sue was because he had provided no consideration. However, the case of Tweddle v. Atkinson (1861) established that the question of consideration was immaterial. The rule of privity of contract stood on its own two feet. In that case, as we saw earlier, the respective fathers of a husband and wife made a contract between themselves to each pay the husband a sum of money. They further agreed that the husband should have the right to sue if one of them defaulted. The father of the wife died without having paid, and the husband sued his executor. It was held that he could not do so. The judge said: "It is now established that no stranger to the consideration can take advantage of a contract, although made for his benefit." In Dunlop Pneumatic Tyre Co. Ltd v. Selfridge & Co. Ltd (1915), Lord Haldane restated the rule as follows: "In the law of England certain principles are fundamental. One is that only a person who is a party to a contract can sue on it." The leading authority in more recent years is Beswick v. Beswick (1968). A coal merchant made over his business to his nephew. As part of the deal, the nephew promised that he would pay an annuity to the uncle's widow after his death. The uncle died, and the nephew failed to pay the annuity. The widow then sued in two capacities – in the first place, in her own right and, second, as administratrix of the uncle's estate. It was held by Lord Denning that she could not sue in the first capacity, as she was no party to the contract. She could, however, sue as administratrix of the estate, and get an order for specific performance of the contract. The next problem is whether a party to a contract can recover damages in respect of a third party's loss; and, if so, can the third party compel the money to be handed over to him/her? The answer is "yes" in both cases. In Lloyd's v. Harper (1880), it was said:

© ABE

126

Contract Law 2: Contract Regulations

"Where a contract is made with A for the benefit of B, A can sue on the contract for the benefit of B, and recover all that B could have recovered if the contract had been made with B himself." The second question was answered in Jackson v. Horizon Holidays Ltd (1975). Mr Jackson contracted with Horizon for the company to provide holiday accommodation of a certain standard for the whole Jackson family. The accommodation turned out to be woefully inadequate, and Mr Jackson sued. HELD: He could recover for distress to himself, as a party to the contract, and also on behalf of his wife and child, who were not parties. Any money recovered on behalf of third parties was in trust for them, and had to be accounted for to them. In Linden Gardens Trust Ltd v. Lenesta Sludge Disposals Ltd (1994), the parties entered into a standard form of building contract, one of the terms of which precluded a party from assigning the benefit of the contract. The contract related to the development of a large estate and both parties were aware that the properties, when built, would be occupied by or purchased by third parties. It became necessary for the building owner, one of the parties to the contract, to institute proceedings against the builders and to claim substantial damages after he had parted with the ownership of the land to third-party property owners. HELD: A prohibition of the assignment of a contract can be rendered ineffective if both parties agree to its release. In the absence of such mutual agreement, however, and where on the facts, the parties are to be treated as having entered into the contract on the basis that the original landowner is entitled to enforce the contract for the benefit of those who actually sustain loss through defective performance, the original landowner is entitled to an award of substantial damages. The court stated: "The present case falls within the rationale of the exceptions to the general rule that a complainant can only recover damages for his own loss. The contract was for a large development of property which, to the knowledge of both parties, was going to be occupied, and possibly purchased, by third parties .... Therefore, it could be foreseen that damage caused by a breach would cause loss to a later owner and not merely to the original contracting party .... In such a case, it seems proper ... to treat the parties as having entered into the contract on the footing that the building owner would be entitled to enforce contractual rights for the benefit of those who suffered from defective performance but who, under the terms of the contract, could not acquire any right to hold the builders liable for breach."

Attempts to Impose Liabilities on Third Parties
A person cannot be bound by the terms of a contract unless he/she is a party to it. However, contracts between two people can affect the rights of third parties. Conversely, a person may commit a tort by interfering with the parties in the performance of their contract. In Lumley v. Gye (1853), Johanna Wagner was employed by Lumley as an opera singer. For his own purposes, Gye maliciously induced Miss Wagner not to perform. HELD: Gye was liable to Lumley for the tort of wrongful interference with contractual rights. Instances of attempts to impose liabilities on strangers fall into three main categories. (a) Contracts for sale of goods These often revolve around attempts to impose conditions on the resale of goods. If a manufacturer sells to a retailer with certain conditions attached, he may want those conditions to attach to the goods when they are resold to the public. However, on account of the doctrine of privity, he cannot enforce those conditions against a third

© ABE

Contract Law 2: Contract Regulations

127

party who buys from the retailer. All he can do is to insist that the retailer himself attaches the desired conditions on his contract with the public (or other third parties). In McGruther v. Pitcher (1904), P manufactured "revolving heel pads" as licensee of the patent's owner. Inside the lid of each box, a notice was stuck stating that it was a condition of sale that the pads would not be resold at less than a certain price, and that "acceptance of the goods by any purchaser will be deemed to be an acknowledgement that they are sold to him on those conditions and that he agrees with the vendors to be bound by the same". A purchaser then resold the goods to the public at less than the specified price. P tried to sue the retailer to prevent this. HELD: P failed. There was no privity between him and the retailer. Further, he could not rely on the printed notice, even though the ultimate purchaser might be aware of it, because "you cannot in that way make conditions run with the goods". Thus, the common law rule is clear – two parties to a contract cannot impose liabilities in the form of restrictions on third parties who subsequently acquire the goods. In respect of price only, this rule can be overridden by statute. Under the Resale Prices Act 1976, agreements on resale price maintenance may, provided they are not those which are void under the Act, be enforced against third parties who buy the goods with notice of the price restrictions. (b) Contracts affecting land There have always been substantial differences between the law relating to land and that relating to other forms of property. Land is called "real property"; other forms are "personal property". In land law, restrictive covenants can always be made to "run with the land", irrespective of privity of contract between the original vendor and subsequent purchasers: Tulk v. Moxhay (1848). (c) Chartering of ships Attempts have been made to extend the principles of "real" property to contracts for the charter of ships. Ships are, of course, "personal property" or "chattels". In Lord Strathcona Steamship Co. Ltd v. Dominion Coal Co. Ltd (1926), Dominion Coal had a time-charter of a ship. The original owners sold the ship to Strathcona, which was aware of the charter, and agreed to be bound by its terms. The company failed to honour the agreement, and claimed that it was not bound by the charter, as it was not a party to it. HELD: An injunction would be granted to restrain Strathcona from breaching the charter. Now, at first sight, the decision appears to be wrong. Under the rules of privity, Strathcona was not a party to the charter, so could not legally be bound by its terms (whatever the moral rights might be). It has been contended, however, that notwithstanding that a ship is a chattel, the equitable rule in Tulk v. Moxhay ensured that equity would not permit an act to be done which was inconsistent with a covenant with notice of which the chattel was acquired. This argument is not very convincing, if you refer back to the "revolving heel pads" case: McGruther v. Pitcher (1904). A better explanation is that a contract can be implied between Strathcona and Dominion, transferring the obligations of the original charter to Strathcona. This is called a "novation". However, whatever the true explanation of this case is, its limits were defined in 1958 in the Port Line case.

© ABE

128

Contract Law 2: Contract Regulations

In Port Line Ltd v. Ben Line Steamers Ltd (1958), Silver Line Ltd chartered a ship to Port Line for 30 months from March 1955. In February 1956, Silver Line sold the ship to Ben Line – but on condition that she be immediately chartered back to Silver Line, to enable the company to carry out its contract with Port Line. This second charter agreement contained a provision that "if the ship be requisitioned, the charter would forthwith terminate". No such clause appeared in the original charter, and Ben Line was unaware of this anomaly. In August 1956, the ship was requisitioned by the Crown – and, so, Port Line lost the use of her. Port Line brought an action against Ben Line to recover the compensation received by Ben Line from the Crown. HELD: Port Line could not sue Ben Line, because there was no privity of contract between them, and Ben Line was unaware, at the time it purchased the ship, of Port Line's rights under the original charter. However, even if Ben Line had had notice, the company would not have been in breach of any duty to Port Line, as it was by no act of theirs that Port Line was unable to use the ship during the period of requisition. It thus appears from this case that the exception to a privity rule permitting a liability to be imposed on a third party will only apply:   If the third party has actual notice of the liability; and If the third party's conduct has been either inequitable or in breach of a separate agreement with the other party to the contract. In Midland Silicones v. Scruttons (1962), Midland Silicones did not know that United States Lines stevedoring had been sub-contracted to Scruttons.

Exceptions to and Avoidance of the Privity Rule
(a) Collateral contracts In an effort to avoid the privity rule causing either an absurdity or injustice, the courts will, sometimes, imply a "collateral" contract between a third party and one of the parties to the main contract. A collateral contract is one that is separate from, but substantially in respect of the same subject-matter as, the main contract. In Shanklin Pier v. Detel Products Ltd (1951), P employed contractors to paint a pier. Detel approached P and represented to him that the company's paint would last for seven years. On the strength of this representation, P instructed the contractors to buy Detel's paint for the job. In practice, it lasted only three months. HELD: Although the contract for the supply of paint was between the contractor and Detel, a collateral contract would be implied between Detel and P that the paint would last for seven years. As will be apparent to you, had the privity rule been strictly applied, P would have no right of action against Detel. Also, as the contract for painting the pier did not contain a warranty that it would last any particular time, P would have no rights against the contractor. Even if P did have such a right, Detel's misrepresentation was made to P. So, the contractor would have no rights against Detel in respect of it. The device of implied collateral contract ensured that justice was done. A problem can, however, arise over consideration in such collateral contracts. In the Detel case, the consideration for Detel's promise that the paint would last seven years was P's instruction to the contractor to buy Detel's paint. However, in Channock v. Liverpool Corporation (1968), the facts were that P's car was damaged and repaired by a garage in pursuance of a contract between it and an insurance company. Repairs were inordinately delayed.

© ABE

Contract Law 2: Contract Regulations

129

HELD: There was a collateral contract between P and the garage that it would do the repairs in a reasonable time. The consideration for this was the leaving of the car with the garage for repair. Although not necessarily a detriment to P, it was a benefit to the garage, in the sense that it enabled it to contract with the insurance company to do the repairs. (b) Statute As we have already seen, statute can override the privity rule. The best example is that of the Resale Prices Act 1976. Other instances are given below.  Law of Property Act 1925, Section 56(1): A person may take an immediate interest in land or other property or rights, although he/she may not be named as a party to the conveyance or other instrument. Married Women's Property Act 1882: People may insure their lives for the benefit of their spouses or children, and these then can enforce the contract on the death of that person, although they are not parties to the contract. Road Traffic Act 1972: A person driving a car with the consent of the owner can enforce any provision of the owner's insurance policy that is in his/her favour.

 (c)

Trusts A beneficiary of a trust may enforce the terms of a contract made for his benefit between his trustee and a third party. The trust does not have to be a formal one. The rule applies to any situation where the law will deem a person to be in the position of a trustee, or where he constitutes himself a trustee for another. In such a case, if the "constructive" trustee makes a contract for the benefit of his "cestui que trust" (i.e. beneficiary), that person can enforce the contract. However, it is necessary that the trustee be joined as a party to any such action to avoid the danger of the third party, or promisor, being sued a second time in respect of the same action by the trustee. In Midland Silicones v. Scruttons (1962), the arguments of agency and trust were both unsuccessfully employed in the Court of Appeal and the House of Lords. See also: Rolls-Royce Power Engineering v. Ricardo (2004).

Note: The rule in privity of contract ensures that a person not a party to the contract cannot be sued in contract. This does not preclude such a person being sued on any other pretext for a breach of their obligations such as in Negligence, which we will deal with later.

Recent Developments
The law relating to privity of contract has undergone important reforms by the passing of the Contracts (Rights of Third Parties) Act 1999 (in force on 11 May 2000). Section 1(1) states that a third party may enforce a term in a contract if:   The contract expressly provides that he/she may do so, or The contract attempts to confer a benefit upon him/her.

Section 1(2) states that the third party will be denied such rights if the parties make it clear that a third party should have no such rights. The third party must be expressly identified in the contract:    By name – e.g. John Jones As a member of a class of persons – e.g. "all employees" As answering to a particular description – e.g. "subsequent purchasers".

© ABE

130

Contract Law 2: Contract Regulations

It does not matter that the third party does not exist when the contract is made – e.g. a subsidiary company yet to be formed; a child not yet born. See: Nisshin Shipping v. Cleaves (2004).

B. JOINT OBLIGATIONS
Definitions
 "Several" liability is present where two or more people make separate promises to another person. These separate promises can be made by the same instrument or by different instruments. The promises are, thus, different – and, if one is discharged or breached, this has no effect on the others. "Joint" liability arises where two or more people together promise to do the same thing. In this event, there is only one obligation, and the discharge of it discharges all the joint promisors. The rules regarding joint obligations are outlined below. "Joint and several" liability occurs where two or more persons in the same instrument make a joint promise to do a certain thing and, at the same time, each of them makes a separate promise with the promisee to do the same thing. So, one joint obligation arises, and also as many several obligations as to the same thing as there are promisors.

How Joint Liability Arises
If two (or in each case more) people make the same promise to a third, it is presumed by the law that the intention was that their liability should be joint. Express words are necessary to make that one obligation a joint and several liability. Examples of joint liability being presumed are outlined below.   Partnerships The liability of partners for the debts of the partnership is joint. In Respect of Bills of Exchange and Cheques If two people draw, accept, or endorse a bill of exchange or a cheque, their liability in respect of it is joint. In the case of a promissory note, the liability may be either joint or joint and several, depending on the words used.

Effects of Joint Liability
(a) Joining all parties As we have mentioned, if the obligation which is the subject of joint liability is discharged, then all the joint promisors are discharged. However, if the promisee wishes to take action in respect of the obligation, he/she should "join" all the promisors who are still alive in the one action. If this is not done, any of the promisors can apply to have the action stayed until all of them have been properly joined. There are certain exceptions to this rule, and there is no requirement to join a joint promisor who is:      A discharged bankrupt Outside the jurisdiction of the court Protected by the Limitation Act 1980 A member of a firm of "common carriers" An undisclosed "sleeping partner".

© ABE

Contract Law 2: Contract Regulations

131

(b)

Death The death of one joint promisor serves to transfer the obligation to the other joint promisors. His/her estate is not, thereafter, liable. An exception to this is in the case of partnerships. As we have seen, the liability of partners is joint, but the estate of a deceased partner is liable for partnership debts to the extent only that the remaining partners cannot satisfy them. However, when the last surviving joint promisor dies, the obligation does then pass to his/her personal representative.

(c)

Judgment against one joint debtor If judgment is obtained against one of the promisors to a joint obligation, this serves to bar any further action against the others, even if it is not satisfied. The reason is that the debt is deemed to merge in the judgment, hence, the practical as well as legal advisability of suing all the joint debtors. In the event of joint and several liability, a judgment against one of them does not bar action against the others. The creditor can sue them all together, or one at a time, as he/she pleases. As you will appreciate, the fact that, not only have the promisors jointly agreed to be liable, but that each has also made a separate promise ensures that this flexibility is allowed to the creditor.

(d)

Contribution between themselves If one joint, or joint and several, promisor pays the debt, or pays more than his/her share, he/she can recover the excess from the others in equal shares – subject, however, to any agreement between themselves to the contrary: Deering v. Earl of Winchelsea (1787). See the Australian case of: Coulls v Bagot’s Executor & Trustee Co. Ltd (1967).

C. ASSIGNMENT
Background and Definition
Assignment is the act of transferring obligations or rights under a contract to another person, not a party to the original contract. Now, it is not only the law but also common sense that a person cannot transfer his/her liabilities under a contract unless the other party agrees to accept performance by the transferee. Nor can a person be compelled to accept liability for the contract from anybody other than the person with whom he/she contracted. This principle was established in the old case of Robson and Sharpe. In Robson and Sharpe v. Drummond (1831), Sharpe undertook to paint annually and keep repaired a carriage, which he hired to Drummond for five years. After three years, Sharpe retired, and he informed Drummond that, henceforward, his partner Robson would be responsible for the painting and repair. Robson was not a party to the original contract and Drummond, therefore, refused to accept this and returned the carriage. HELD: He was entitled to do so. The reasoning here is that a person is entitled to insist that the work is carried out by the person whom he, obviously, trusts to do it properly and in accordance with his wishes. That person has been selected on the basis of skill, competence, or other characteristics – so, it is right and proper that no one else should do the job. However, in cases where the contract is such that it is quite immaterial who actually does the work, provided it is done adequately, it may be performed vicariously by someone else: that is to say, the performance is transferred to a third person without the necessary consent of

© ABE

132

Contract Law 2: Contract Regulations

the employer. However, normally, the liability, as opposed to the actual performance, is not transferred. In British Waggon Co. v. Lea & Co. (1880), the Parkgate Company hired a number of railway wagons to Lea, and agreed to keep them in repair. Parkgate then went into liquidation and assigned both the repair work and the benefit of the contract to British Waggon. Lea refused to accept this and rescinded the contract. HELD: He could not do so. Robson and Sharpe v. Drummond was distinguished on the grounds that, here, any ordinary workman could carry out the necessary work and it was of no importance who actually did it. Of course, with the agreement of both parties, either the benefit of, or the liabilities under, a contract can be assigned to a third party. What one is, in reality, doing in such a case is cancelling the old contract, and substituting a new one, with the third party. This, as we have seen, is called a "novation". Originally, the common law forbade the assignment of rights or obligations under contracts, whereas equity would permit them. So, statute stepped in to regulate the apparent absurdity. Now, therefore, there are two types of assignment.

Statutory Assignments
By the Law of Property Act 1925, Section 136, "any absolute assignment by writing under the hand of the assignor of any debt or other legal thing in action, of which express notice in writing has been given to the debtor, is effectual in law to pass and transfer from the date of such notice: (a) (b) (c) the legal right to such debt or thing in action; all legal and other remedies for the same; and the power to give a good discharge for the same without the concurrence of the assignor".

Section 136, therefore, permits any rights arising under a contract to be legally assigned to a third party, without the consent of the other party, provided that the assignor gives prior written notice to the other party. However, note that it is only rights under the contract that may be so assigned – the right to receive payment of a debt, the right to receive payments due on the contract, and so on. A person still cannot assign the liabilities – that is, the duties he/she has to perform, or the obligation to make payment, etc., by virtue of this statutory provision.

Equitable Assignments
Equity does not insist on the formality of written notice before the assignment of a debt or other "thing in action" is valid. Plainly, it is sensible to do so, but not essential. In equity, an assignor can assign a right arising under the contract in two ways:   By transferring the right to receive something, be it payment or the performance of the contract, to his/her assignee; By instructing the other party to the contract (the debtor) to discharge his/her debt to, or give performance to, the assignee.

Provisions Applicable to both Statutory and Equitable Assignments
(a) The assigning of rights under a contract is not necessarily a separate or collateral contract between assignor and assignee, although it can be. It is a right, and consideration for it is not necessary: Holt v. Heathfield Trust Ltd (1942).

© ABE

Contract Law 2: Contract Regulations

133

(b)

A contract can specifically declare that rights under it shall be incapable of assignment – in which event, any purported assignment will be invalid. See: Linden Gardens Trust v. Lenesta Sludge Disposals Ltd (1993); St Martin’s Property Corp Ltd v. Sir Robert McAlpine (1994). The assignment of certain rights is prohibited by statute, or made void by reason of "public policy" – e.g. benefits under Social Security legislation; the salary of a public officer; the right of a wife to receive maintenance. Rights arising under commercial contracts are, normally, readily assignable. However, it may appear from the contract that the requirements of one party are a material consideration in ascertaining the obligations of the other. In such event, the benefit of the contract may not be able to be assigned. Two examples may serve to illustrate the difference. In Tolhurst v. Associated Portland Cement Manufacturers Ltd (1902), Tolhurst contracted to supply a small company with "750 tons of chalk per week for 50 years, and so much more as the company shall require for the manufacture of Portland cement upon their piece of land ". The small company sold its business to Portland Cement, which was a large concern. HELD: Portland Cement could maintain an action against Tolhurst in its own name. Portland Cement was entitled to the benefits of the contract, and the assignment of them was valid. The reasons given were:  That the assignment did not increase the burden of the contract on Tolhurst, as the small company might have increased its capital and worked "its piece of land" more intensively; and With a contract of such long duration, the possibility of assignment must have been contemplated.

(c)

(d)

On the other hand, consider Kemp v. Baerselman (1906). Here, D contracted to supply a cake manufacturer with all the eggs that he would require for one year, and the manufacturer agreed not to purchase eggs from elsewhere. The cake manufacturer transferred his business to another company. HELD: The contract for eggs was not assignable. The obligation to supply eggs was not limited to the capacity of a piece of land, or anything else. Its assignment would, therefore, increase the burden of the contract on D. In the second place, the agreement of the manufacturer not to purchase elsewhere was personal, and the obligation would not have been binding on the assignee company.

D. MISTAKE
The subject of "mistakes" in contracts, and how they affect the validity or otherwise of the bargain, is one of the most illogical areas of contract law. Many of the cases turn on fine distinctions. As a generalisation, if you make a mistake in entering into a contract, that is your bad luck – you must suffer the consequences. However, there are certain types of mistake which the law recognises as affecting the agreement. In some instances, common law will declare that a mistake has served to nullify the consent, and so made the contract void "ab initio", or as if it had never been made. In others, equity will step in to allow the contract to be rectified or rescinded, or to act as a defence to a request for an order of "specific performance" of the contract (you will remember that specific performance is a court order compelling the guilty party to execute the contract according to its terms).

© ABE

134

Contract Law 2: Contract Regulations

At common law, there are two basic types of mistake which may serve to render the contract void: common mistake (where both parties have made the error) and unilateral mistake (where only one of them has).

Common Mistake
Where the mistake is shared by both parties, it may mean that there is no true agreement or "consensus ad idem". There is agreement of a sort, but it is based on a false assumption, hence common law may declare the contract void on the grounds that the agreement is not a true consensus. There are only a few circumstances where this will apply. (a) Mistake as to some Fact which Lies at the Basis of the Contract If both parties assume some fact to be true, and that fact is a root condition of the contract, and it is either false or non-existent, then the contract is nullified. The leading example of this is Bell v. Lever Bros Ltd (1932). Lever Bros had a subsidiary in Africa, called the Niger Company Ltd. Mr Bell and another man were directors of the Niger Company, and they had service agreements with the parent, Lever Bros. These agreements, as well as providing for large salaries, also contained a provision that the directors were prohibited from carrying on business on their own account. Unbeknown to Lever Bros, the two directors did carry on private business and made substantial profits from it. For quite unconnected reasons, Lever Bros terminated the two service contracts before their expiry, and paid a substantial "golden handshake" to each of the two directors. They later learned about the private business profits. Had they discovered this beforehand, they would have been entitled to terminate the service agreements summarily without payment of any compensation. They sought to recover the payments they had made. It was found as a fact by the jury (they had juries in civil actions in those days) that the two directors had not given a thought to their previous breaches of contract when entering into the contract for compensation with Lever Bros. It was, therefore, a case of common mistake – Lever Bros did not, at the time, know about their right summarily to dismiss, and it never occurred to Mr Bell. Hence, they both contracted for the compensation payment on the basis of ignorance of a vital fact. Both the High Court and the Court of Appeal held that there had been a common mistake as to some fact at the root of the contract. Hence, as there was no true agreement, the contract was void ab initio and Lever Bros were entitled to recover the payments. By a majority of three to two, the House of Lords overturned this decision, mainly on the ground that the mistake was not sufficiently fundamental to avoid the contract. (b) Mistake as to the Existence of the Subject-matter of the Contract This, usually, occurs in contracts for the sale of goods. If both parties think they are contracting for a certain thing, and unknown to both, it does not actually exist, then the contract is void. There are a number of important cases to illustrate this principle. In Couturier v. Hastie (1856), the parties contracted for a cargo of corn, which was believed to be in a ship bound from Greece to England. In fact, before the date of the sale, the corn had rapidly deteriorated, and the ship had put in to Tunis and sold the cargo for what it would fetch. HELD: The contract was void because of mistake as to the existence of the subject matter.

© ABE

Contract Law 2: Contract Regulations

135

In Barrow, Lane & Ballard Ltd v. Phillip Phillips & Co. (1929), there was a contract to buy specific bags of nuts, stored in a warehouse. Unknown to both parties, at the time of the sale, those particular bags of nuts had been stolen. HELD: The contract was void. There is an alternative argument as to the reason why a contract should be void if there has been a mistake as to the existence of the subject-matter. This is that: "cases where goods have perished at the time of sale ... are really contracts which are not void for mistake, but are void by reason of an implied condition precedent because the contract proceeded on the basic assumption that it was possible of performance": Lord Denning in Solle v. Butcher (1950). The result is, usually, the same: the contract is void. However, on occasions, the court will refuse to imply such a condition precedent. In McRae v. Commonwealth Disposals Commission (1951), the Commission sold to a salvage firm, McRae, an oil tanker lying stranded on a Jourmand reef, 100 miles off the coast of New Guinea. When the salvage firm arrived on the scene, it found that, not only was there no oil tanker, but also no reef anywhere in the vicinity! HELD: McRae succeeded. The contract was not void for mistake, and no condition would be implied that the contract would be void if the tanker was not in existence. This is, perhaps, an example of the court trying to ensure that justice was done. The Commission was reckless in asserting the existence of the vessel. Had the contract been declared void for mistake, the purchase price would have been repaid, but not the very substantial expense of fitting out the salvage expedition and searching the area. (c) Mistake as to Title This is an uncommon type of mistake, but it does occur – not least in examination questions! The principle is that, if someone makes a contract in the belief that the subject-matter belongs to the other party, whereas in reality it is his/her own property, the contract will be void (Cooper v. Phibbs). In Cooper v. Phibbs (1867), A contracted to lease a fishery in Ireland from B. Unknown to both of them at the time, A was, in fact, "tenant in tail" (i.e. beneficial owner) of the fishery. HELD: The lease would be set aside. In a contract which involves sale of goods, the seller warrants his/her title to the goods. So, if there is a common mistake, the contract is not avoided, and the seller may be liable for damages for breach of warranty. It is only where there is no such warranty that the contract will be void if the buyer purchases his/her own property. (d) Mistake as to the Quality of the Subject-matter This category of mistake probably raises the greatest number of problems for the courts. An ordinary error as to quality will not avoid the contract, although it may well give rise to an action for damages. In order to qualify as a mistake, which will serve to avoid the contract:   It must be common to both parties; and It must be such that the quality makes the thing contracted for an essentially different thing from that which it was thought to be.

In Kennedy v. Panama, New Zealand and Australian Royal Mail Co. (1867), the company issued a prospectus offering shares, and it stated that the extra capital was needed to fulfil a profitable mail contract with the Postmaster in New Zealand. It later transpired that the contract was beyond the Postmaster's authority to make. Mr

© ABE

136

Contract Law 2: Contract Regulations

Kennedy, who had purchased shares in reliance on the statement in the prospectus, attempted to repudiate the share purchase contract on the grounds that the shares issued were totally different in substance from those for which he had contracted. HELD: He failed on these grounds. The shares purchased under an admitted mistake were not sufficiently different in substance or quality to avoid the contract. A mistake as to quality which was not sufficient to make the thing contracted for a totally different thing occurred in Frederick E Rose (London) Ltd v. H Pim Junior & Co. Ltd (1953). The parties contracted for the sale of "horse beans", which both believed to be the same as "féveroles". They were not the same thing. HELD: The contract was valid. The difference was not sufficiently fundamental. However, the common mistake was sufficiently fundamental to avoid the contract in Scriven Brothers v. Hindley (1913). Here, Hindley bid at auction for what he believed was hemp. The auctioneer thought he was offering tow. HELD: Hemp and tow are totally different commodities, and the contract was, therefore, void. (e) False and Fundamental Assumption This is the last category of common mistake. As was said in Bell v. Lever Bros: "Whenever it is to be inferred from the terms of the contract or its surrounding circumstances that the consensus has been reached upon the basis of a particular contractual assumption, and that assumption is not true, the contract is avoided ." There are two important cases which illustrate how a false and fundamental assumption by both parties will serve to avoid a contract.  Magee v. Pennine Insurance Co. Ltd (1969) Mr Magee claimed on his insurance company for damage to his car. The damage was caused by a risk which was covered under the policy. The insurance company agreed to pay. It later transpired that, unbeknown to both parties, at the time of the accident the policy was, in fact, voidable by the insurance company. HELD: The contract was avoided by reason of the false and fundamental assumption of both parties that the policy was valid.  Sheikh Brothers Ltd v. Ochsner (1957) The company granted Ochsner a licence to cut sisal on its estate in Kenya, on condition that he delivered to the company for processing 50 tons per month of the sisal cut. Unknown to both, the estate was incapable of producing this quantity of sisal. HELD: The contract was avoided. It was based on a false and fundamental assumption.

Unilateral Mistake
As we mentioned earlier, this occurs when only one party is mistaken. It is fundamental that no contract can validly be formed if offer and acceptance do not correspond. So, if one party makes an offer which is accepted in a radically different sense by the other, there is no valid agreement. However, contracts are construed objectively – so, the test is not what the intention of the one mistaken party was but, rather, what would a hypothetical reasonable person have understood from the words used? Cases can occur when there is so much ambiguity,

© ABE

Contract Law 2: Contract Regulations

137

whether actual or latent, that no reasonable agreement could be reached. Once again, these fall into various categories.

Mutual Mistake
If, even after applying the objective test, the parties are genuinely at cross-purposes as to the subject-matter, or as to the terms of offer or acceptance, the contract will be void. In Raffles v. Wichelhaus (1864), the parties contracted to buy a cargo of cotton to arrive "ex Peerless from Bombay". Two ships, both named "Peerless" sailed from Bombay – one arriving in October and the other in December. The parties each intended that the contract should be in respect of the different ships. HELD: The contract was avoided. The case of Scriven v. Hindley referred to under (d) Mistake as to the Quality of the Subjectmatter (above) could also be considered to fall into this category. One party thought the contract was for hemp, the other thought it was for tow. (a) Mistake as to the terms of the contract A mistake as to the terms of a contract will serve to avoid the contract only if the mistake is known to the other party. In this case there is, probably, an element of bad faith, if not of actual fraud. The normal "objective" test can, therefore, be replaced by subjective intention. It must, however, be an error as to the terms, not as to the quality or substance. These latter constitute motive, and an error in motive will not avoid a contract. In Hartog v. Colin and Shields (1939), Argentine hare skins were offered for sale. By mistake, they were offered at a price per pound instead of a price per piece. The custom of the trade and previous negotiations had been based on a price per piece. The offer was accepted. HELD: The purchasers must have known that the offer did not reflect the true intentions of the seller, so the contract was void. In Smith v. Hughes (1871), oats were purchased in the belief that they were old oats. They were, in fact, new oats which were quite unsuitable for the purpose. The decision hinged on whether the purchaser made a mistake in thinking they were old oats, or whether he was mistaken in thinking he was being offered old oats. In the former event, the mistake would be one of motive – thus, not avoiding the contract. In the latter event, it would be a mistake as to terms, which, if known to the seller, would avoid the contract. The actual decision was, therefore, one of fact for the jury. It was decided that the contract was binding since the mistake related to the quality or substance of the oats (i.e. motive), which the seller had done nothing to induce. (b) Mistake as to person The next category of mistake is where one party is mistaken as to the person with whom he/she has contracted. It is in this area where most confusion arises, and in which the courts have drawn fine distinctions. When solving examination questions on this subject, there are two vital questions which you must ask yourself:  "Does the identity of the person with whom the contract is being made matter?" In other words, is it the intention to contract with that particular person, and no other? And, if the answer is "yes", then: "Is the mistake as to his/her identity, not as to his/her attributes" (e.g. solvency; character; social standing; etc.)?

© ABE

138

Contract Law 2: Contract Regulations

If the answer to both these questions is "yes", then, in all probability, the contract will be avoided if a mistake has been made. Let us explain the reason for asking these questions. In the first place, in many contracts it is of no significance with whom a person is contracting. A shopkeeper is not concerned whether he sells a packet of cigarettes to me, or you, or the man in the moon. Hence, if we have falsely stated who we are, it does not affect the validity of the contract. Whereas, if it is intended to contract with a particular person, and no other, then a mistake as to his/her identity is one which the law recognises as grounds for avoiding the contract. For instance, if you want a solicitor to defend you on a drink/driving charge, and you have heard that Mr A L Cohol is the best man in town, then you want him, and no one else. It is the essence of the contract that he is employed to defend, and not his brother or his clerk. The second point is that the mistake must be as to the identity of the other person. An error as to his/her attributes does not affect the validity. It is no good thinking that you wish to contract with Lord Gooseberry because he is rich, of high standing, and known to be a good guy. If it turns out that the contract goes sour because his lordship is, in fact, bankrupt, and a thoroughly nasty character, then you have no redress by trying to avoid the contract. Most of the cases involve fraud in one form or another. They often arise because a fraudulent person has purchased goods and sold them to an innocent third party. The problem then is that, if the contract is void for mistake, the third party has no title to the goods, and must return them. If, on the other hand, the contract is merely voidable for fraud, and is not validly avoided in time, then the third party gets a good title. A case which illustrates the first question as to whether the identity of the other party is material is Upton-on-Severn RDC v. Powell (1942), which we mentioned in the previous chapter. To recap: Mr Powell's farm was on fire, so he called the police, which called Upton fire brigade. The Upton brigade promptly arrived and put out the fire. However, unbeknown to Mr Powell, his farm was actually in the Pershore fire brigade area. The Upton brigade sent in a bill for an "out of area" call. Had the Pershore brigade been called, it would have come for free. HELD: It was of no significance to Mr Powell which brigade came, so, if he made a mistake, the contract was not avoided, and he must pay. The other side of the coin is shown by Boulton v. Jones (1957). Mr Jones had, for a long time, had business dealings with a certain Mr Brocklehurst. One day, he sent a written order for goods, addressed to Mr Brocklehurst. By chance, on that very day, Mr Brocklehurst, without telling Jones, had transferred his entire business to Mr Boulton. The latter, on receipt of the letter, dispatched the goods. Jones refused to pay. HELD: He was not liable to. The identity of the other party was a material consideration and, therefore, the contract was void for mistake. The question of identity, rather than attributes, is answered by the following illustrations. In Cundy v. Lindsay (1878), a fraudulent person, called Blenkarn, wrote to Cundy, offering to buy some goods. He forged the signature of Blenkiron & Co., which was a reputable firm, trading in the same street. Cundy sent the goods under the impression that he was dealing with Blenkiron & Co. The innocent Mr Lindsay purchased them from Blenkarn. HELD: The contract between Cundy and Blenkarn must be void for mistake. The identity of the contracting party was of material importance.

© ABE

Contract Law 2: Contract Regulations

139

The opposite result occurred in Kings Norton Metal Co. v. Edridge, Merrett & Co. (1897). One Wallis ordered goods from Kings Norton Metal on the letter heading of a fictitious firm, called Hallam & Co. They were delivered, and Wallis sold them to Edridge Merrett. HELD: The first contract was good. Kings Norton Metal intended to contract with the writer of the letter. That the company made a mistake as to his attributes did not affect the validity of the contract. If people contract face to face, this problem of the identity of the other person often presents difficulties. However, the principles, and the questions to be asked, are the same. In Lake v. Simmons (1927), a woman, called Ellison, posing as the wife of a wealthy customer called Van der Borgh, went into a jeweller's shop. She purchased a few trivial items, to inspire confidence. As a result, she was allowed by the jeweller to take away two valuable necklaces "on approval", for her purported husband. That was the last that was seen of her! HELD: The jeweller thought he was dealing with Mrs Van der Borgh, and it was for that reason alone that he allowed her to take away the necklaces. The contract was void for mistake. However, you must always consider the basic rules of contract as to when the contract was actually formed. In Phillips v. Brooks Ltd (1919), a certain Mr North went into a jeweller's shop. He selected some jewellery and bought it. As he was writing out a cheque for £3,000, he said: "I am Sir George Bullough", and gave an address. The jeweller checked with a directory and found that Sir George did, indeed, live at that address. He allowed North to take away the jewellery. The cheque bounced. HELD: The contract was made before the identity of the person had been disclosed. However, even if it hadn't been, the jeweller intended to contract with the man who came into his shop. The contract was, therefore, valid. It might have been voidable (i.e. avoidable), but it had not, in any case, been avoided before title passed. Lewis v. Averay (1972) expressly prefers the voidable: Phillips v. Brooks Ltd (1919) approach to the void: Cundy v. Lindsay (1878). See also: Shogun Finance v. Hudson (2004). For a more modern application of the principle, see: Pankhania v. London Borough of Hackney (2002).

Non Est Factum
The doctrine of "non est factum" (that is not my deed) is a form of unilateral mistake. The principle is that a person is, normally, bound by his signature to a document. If he has not bothered to read it, or he does not understand it, then that is his problem. However, if he has been misled or deceived into signing a document which is essentially different from that which he intended to sign, then he can claim "non est factum", and the document and signature are void. The defence is not lightly available – a mistake as to the contents is not sufficient: it must be one as to the character or effect of the document. In Lewis v. Clay (1898), Clay was persuaded by a friend of long-standing to "witness the friend's signature". A document was placed before Clay, covered up except for four openings for his signature. He duly signed in the spaces provided. In reality, however, what he had signed were two promissory notes and two authorisations to Lewis, to pay the proceeds to someone else. HELD: The promissory notes were void.

© ABE

140

Contract Law 2: Contract Regulations

In Saunders v. Anglia Building Society (1971), Mrs Saunders was an elderly widow. She gave the title deeds of her house to her nephew, with the intention that the house should be a gift and enable him to borrow money on the security of it. It was a condition that she should be able to live there for the rest of her life. Later, she was persuaded by a friend of the nephew, who she knew was helping him get a loan, to sign a document. The friend said it was "to do with the gift". The old lady, who had broken her spectacles, signed without reading the document. The document was, in fact, a conveyance of the house to the friend. HELD: The plea of non est factum failed. The whole series of events had to do with the title of the house; so, the document Mrs Saunders signed was not essentially different from what she thought it was.

E. MISREPRESENTATION
A representation is a statement made by one party to the other, before or at the time of contracting, with regard to some existing fact or to some past event, which is one of the causes inducing the contract. If a person is misled into entering a contract by an untrue statement or representation, made by the other party before or at the time of making the contract, then the party who has been deceived may have a right of redress. Such an untrue statement is called a misrepresentation. Note that a person's actions or behaviour may amount to a misrepresentation. In Walters v. Morgan (1861), the court stated that "a single word or ... a nod or a wink, or a shake of the head, or a smile" intended to induce a person "to believe in the existence of a non-existing fact, which might influence the price of the subject to be sold" will constitute misrepresentation.

Rules
There are four rules which decide whether a particular statement is a misrepresentation such as to allow of redress and, if it is, what that redress may be. In the first place, in order to constitute a misrepresentation, the statement must be one of fact, either past or present. Statements of law or of opinion cannot be misrepresentations, nor can statements of intention which are not carried out. Second, the representation must induce the contract. In the third place, it must be addressed to the party misled. Lastly, it must be false or untrue. Let us examine these requirements in more detail. (a) Statement of fact In negotiating a contract, all sorts of statements are made. Some are "mere puffs" not intended to be taken seriously. A good example of this is "probably the best lager in the world ". Others are expressions of opinion. In Anderson v. Pacific Fire Marine Insurance Co. Ltd (1872), a shipping company effecting an insurance policy wrote to the company and stated that, in the ship's master's opinion, a certain anchorage was good. The vessel was later lost at that anchorage. HELD: The letter was not a representation of fact, but merely of opinion. Expressions of intent do not constitute misrepresentations, unless they are false statements of the intentions of the party making them. If a person says "I intend to do something" and at the time of making the statement she genuinely does so intend, then even if she breaks her promise, it will not constitute a misrepresentation of fact. But if she says it, with the intention at the time of breaking the promise, then she is misrepresenting a fact, and legal consequences flow from it. The fact she has falsely

© ABE

Contract Law 2: Contract Regulations

141

stated is the state of her mind. As Lord Justice Bowen remarked in Edgington v. Fitzmaurice (1885): "The state of a man's mind is as much a fact as the state of his digestion .... A misrepresentation as to the state of a man's mind is, therefore, a misstatement of fact." Lastly, the untrue statements must be of fact, not law. This must, however, be taken with reservations. A misstatement of the general law is not a fact, but a false statement of a person's private legal rights may well be a misrepresentation of fact. A person is deemed to know the general law, so should not be deceived, but he/she cannot necessarily know or check on private legal rights. The matters are therefore considered to be facts. (b) The statement must induce the contract If a false statement is made to which the other party pays no attention, or which does not in any way influence him, then this does not affect the validity of the contract. The degree of inducement does not have to be total, but the party deceived must, to some material extent, have been influenced by the statement into making the contract. In Horsfall v. Thomas (1862), Horsfall manufactured a gun for Thomas, which had a defect making it worthless. Horsfall tried to conceal this by inserting a metal plug in the defective part. Thomas never inspected the weapon and, when he used it, it blew up. HELD: As Thomas never inspected the gun, the attempted concealment of the defect did not affect his mind and did not induce him to accept the weapon. (c) The statement must be addressed to the party misled Unless the untrue statement was either made to the other party or it was made to another person, in the knowledge and with the intent that that person should pass it on to the other party, it does not affect the validity of the contract. In Peek v. Gurney (1873), a company issued a false prospectus inviting applications for shares. Mr Peek purchased shares, not direct from the company, but from a person to whom they had been allotted. HELD: The prospectus was not addressed to Mr Peek; therefore, he could not repudiate the contract on grounds of misrepresentation. (d) The statement must be untrue This is not quite as obvious as it sounds. In English law, there is no general duty for one party to acquaint the other of all the relevant facts. Unless the contract is one of those which are "uberrimae fidei" (of utmost good faith), the principle of "caveat emptor" (let the buyer beware) applies to contracts generally – not merely to those for sale of goods. Hence, mere silence does not constitute a misrepresentation. A positive untrue statement must have been made. In Keates v. Cadogan (1851), Lord Cadogan let a house to Keates. He knew that the house was required for immediate occupation. The house was in a ruinous condition. HELD: There had been no false statement made, and no warranty, express or implied, that the house was fit for occupation.

© ABE

142

Contract Law 2: Contract Regulations

Types of Misrepresentation
There are three different types of misrepresentation that can be made, and their effects on the contract are different. Damages can always be recovered and, in certain circumstances, the contract can also be avoided by the innocent party. The question is partly decided by common law, and partly by virtue of the Misrepresentation Act 1967. (a) Fraudulent misrepresentation This occurs where an untrue statement is made knowingly or without belief in its truth. In Derry v. Peek (1889), a company was empowered to run trams by horsepower or (with the consent of the Board of Trade) by steam. The directors believed that the Board of Trade's consent would be forthcoming, and they issued a prospectus, stating the company had the right to use steam-trams. The Board of Trade refused consent. HELD: The misrepresentation was not made fraudulently. The effect of a fraudulent misrepresentation is to allow the party deceived to rescind, as of right, the contract, and seek damages for loss sustained. Of course, he/she does not have to rescind it. He/she can always affirm it, and merely seek damages. However, it is important to remember that rescission is always available to him/her. See: BSkyB Ltd v. HP Enterprise Services UK Ltd (2010). (b) Negligent misrepresentation A false statement is made "negligently" when it is made carelessly, or without reasonable grounds for believing it to be true. As you will appreciate, the distinction between fraud and negligence can be a fine one. However, broadly speaking, a misstatement is negligent if it was merely carelessly made, but it is fraudulent if it is made with evil intent or recklessly. The distinction is, however, important, for, although the innocent party has a right to claim damages under the Misrepresentation Act 1967, Section 2(1), his/her additional remedy of rescission is by virtue of Section 2(2) of the Act, subject to the discretion of the court. The court's discretion will be exercised only if it would be "equitable to do so, having regard to the nature of the misrepresentation and the loss that would be caused by it if the contract were upheld, as well as the loss that rescission would cause to the other party". At the time of Derry v. Peek, "fraud" was deemed to include recklessness. See also Spice Girls Ltd v. Aprilla World Service BV (2000). (c) Innocent misrepresentation This type of false statement is one which was made neither fraudulently nor negligently. By virtue of Sections 2(1) and 2(2) of the 1967 Act, the remedies for an innocent misrepresentation are either rescission or damages – but not both. Further, neither of these remedies can be claimed as of right. The court has the unfettered power to make whichever order would be just and equitable in the circumstances. See also: Belfairs Management Ltd v. Sutherland and another (2010).

© ABE

Contract Law 2: Contract Regulations

143

F.

UNDUE INFLUENCE

A contract is voidable at the option of the innocent party if it was entered into as a result of undue influence.

Duress
If a person is coerced into making a contract by fear for his own physical wellbeing or that of his immediate family, or for the safety of the goods, or – on rare occasions – for his economic profits, this is called "duress". The coercion may be either actual or threatened. The socalled contract is void. (a) Duress to the person This consists of actual or threatened violence to the person, or imprisonment. It can be either in respect of a party to the contract or in respect of his/her immediate family. The degree of threat necessary varies with the physical or mental state of the person threatened. In other words, the test is a subjective one. If the person was in a state of fear, whether reasonably so or not, then this will suffice to permit him/her to avoid a contract he/she was coerced into making as a result of the threats of or actual physical violence or imprisonment. Imprisonment, in this sense, does not necessarily mean being thrown into gaol. It also means loss of liberty, e.g. by being locked in a room. In Mutual Finance Co. Ltd v. John Wetton & Sons Ltd (1937), a family company was induced to give a guarantee for a debt by threats to prosecute a member of the family for the forgery of a previous guarantee. At the time, the coercers knew that the father of the alleged forger was in a delicate state of health. HELD: The guarantee would be set aside. (b) Duress of goods This is actual or threatened unlawful detention of goods. This type of duress does not, at common law, entitle a party to avoid a contract entered into as a result of the duress but, in equity, it entitles him/her to recover any money paid in order to secure the release of the goods. In Maskell v. Homer (1915), tolls were paid on goods as a result of the threat of seizure. The tolls were unlawfully demanded. HELD: The money could be recovered. (c) Economic duress The threat of loss of profits if a contract is not made is called "economic duress". It has only fairly recently been recognised by the law as a possible cause for avoiding a contract, and the law on economic duress is not yet fully developed. The proposition is that, if a person is induced to enter into a contract by fear of loss if he/she does not agree to the contract, this may constitute actionable duress. However, the degree of coercion must be substantial. In Pao On v. Lau Yiu (1979), the Privy Council said: "There is nothing contrary to principle in recognising economic duress as a factor which may render a contract voidable, provided the basis of such recognition is that the duress must amount to coercion of will which vitiates consent. It must be shown that the payment made or the contract entered into was not a voluntary act." This case was an unusually complicated one from Hong Kong, and it hinges on factors other than duress. However, a good example is North Ocean Shipping Co. Ltd v. Hyundai Construction Co. Ltd – "the Atlantic Baron" (1978).

© ABE

144

Contract Law 2: Contract Regulations

An oil-tanker, the Atlantic Baron, was being built in Korea. As is usual, the price was contractually payable in stages, in US dollars. The owners had made a long-term charter contract for the ship with Shell, to commence on the date she was due to be delivered by the builders. Part-way through the building contract, the US dollar was devalued by 10%, and the builders demanded an extra payment on subsequent stages of payments to correct this. They threatened to withhold delivery if these extra sums were not paid. In the meantime, the bottom had dropped out of the tanker charter market, so had the vessel not been delivered in time, the owners would have been compelled to renegotiate the charter contract with Shell at a far lower market rate. The loss over a long-term charter would have been enormous. Thus, to avoid this, they paid up. HELD: The action of the builders was potentially economic duress such as to allow the owner to recover the money paid under duress. However, in the circumstances, they had failed adequately to protest, and had been deemed to have affirmed the contract as altered. Contrast Atlas Express Ltd v. Kafco (Importers and Distributors) Ltd (1989), which we mentioned in the last chapter. Here a small company entered into an agreement with a national firm of carriers. The carriers subsequently purported to impose higher charges than previously agreed. Because the company was unable to find an alternative carrier and was heavily dependent on the contract, it reluctantly agreed to the new terms, but later refused to pay. HELD: The facts constituted economic duress and the carriers' claim for additional payment was dismissed. In CTN Cash and Carry Ltd v. Gallaher Ltd (1994), the claimants owned six wholesale warehouses and the defendants were manufacturers and distributors of certain popular cigarette brands. Separate supply contracts were entered into periodically between each of the warehouses individually and the defendants. The defendants granted the claimants credit facilities, though these could be withdrawn at any time. The manager of one of the claimants' warehouses submitted an order to the defendants, but through mistake, the cigarettes were delivered to one of the other warehouses. The defendants arranged to collect the cigarettes and deliver them to the right one, but before they could do so, they were stolen. The defendants, under the mistaken impression that the cigarettes were at the time of the burglary at the claimants' risk, invoiced the claimants for their payment. The claimants rejected the invoice, whereupon the defendants notified the claimants that their credit facilities would be withdrawn. The claimants, faced with this threat, paid the invoice and thereafter took proceedings against the defendants, contending that the money had been paid under duress. HELD: The defendants' conduct had not amounted to duress and, accordingly, the claimants' claim failed. Common law does not recognise inequality of bargaining power in commercial dealings: the defendants had merely exerted commercial pressure not amounting to legal duress, with a view to recovering a sum of money which they believed in good faith at the time to be due to them. The lesson to be learnt from these cases is:   That the duress must be such as to vitiate consent; and That any contract entered into or money paid must be done under formal protest, and rescinded as soon as the duress has lifted.

© ABE

Contract Law 2: Contract Regulations

145

Read the dicta of Dyson J in DSND Subsea Ltd v. Petroleum Geo-Services Asia (2000); and of Hoffman LJ in R v. Att-General for England and Wales (2003). See also: Portman Building Society v. Dusangh (2000).

Undue Influence
Undue influence is said to exist where one person has a special relationship with another and, as a result of this relationship, that other is induced to enter into a contract to his/her disadvantage. Where there is a confidential or fiduciary relationship, the stronger party must show that undue influence was not exerted. Lord Chelmesford said in Tate v. Williamson (1866): "Wherever two persons stand in such a relationship that, while it continues, confidence is necessarily reposed by one, and the influence which naturally grows out of that confidence is possessed by the other, and this confidence is abused, or the influence is exerted to obtain an advantage at the expense of the confiding party, the person so availing himself of his position will not be permitted to retain the advantage, although the transaction could not have been impeached if no such confidential relation had existed." Examples of where such a confidential relationship is likely to exist are:       Parent and child Guardian and ward Solicitor and client Doctor and patient Religious adviser and the person to whom advice is given Trustee and beneficiary.

A confidential relationship is, strangely enough, not automatically presumed between husband and wife, although it can be shown to exist: RBS plc v. Etridge (no2) (2002). Nor is the above list exhaustive. Any situation where trust and confidence are imposed by reason of the relationship can be one where undue influence can apply. In Tufton v. Sperni (1952), P and D were both members of a committee to establish a Moslem cultural centre in London. P was going to provide funds, and D induced him to buy D's house for the centre at a grossly high price. HELD: The contract would be set aside by reason of undue influence. There is no necessity for there to have been actual fraud for a contract to be set aside for undue influence. However, undue influence must be proved, except in cases of confidential relationships. In Credit Lyonnais Bank Nederland NV v. Burch (1996), the defendant was employed by a company which was experiencing financial problems. One of the company's directors, who was known to the defendant and her family, asked the defendant to put her flat up as collateral security for the company's overdraft in favour of the claimant bank, the company's bankers. He did not, however, explain the company's detailed financial position to her, but intimated that if she failed to provide the collateral security requested, the company would collapse and she would be out of work. The claimant bank took steps to advise the defendant to take independent legal advice before entering into a formal mortgage of her flat to them, but she did not do so and entered into the mortgage, guaranteeing repayment of the company's borrowing from them without

© ABE

146

Contract Law 2: Contract Regulations

limit. It became necessary to enforce the mortgage by her, due to the further deterioration in the company's trading position. HELD: The mortgage could not be enforced against the defendant and would be set aside, because the transaction was so patently disadvantageous to the defendant as to raise a strong presumption of undue influence. This presumption had not been rebutted, because the claimant bank had failed to take reasonable steps to avoid being fixed with constructive notice of the employer's undue influence over the defendant, when neither the potential extent of her financial obligations had been explained to her nor had she received independent advice in fact. It was necessary that she should have at least received independent advice in the circumstances before she entered into the mortgage. Contracts made under undue influence are voidable. Rescission is, however, an equitable remedy, and, therefore, discretionary. Existing rights are not affected, but the contract comes to an early end. The party seeking to set aside a transaction on the grounds of undue influence cannot do so in the following circumstances.   If third parties have acquired rights under it, bona fide and for value. If there has been unreasonable delay. "Delay defeats equity." The facts of each case must determine what constitutes reasonable delay.

In Allcard v. Skinner (1887), a young lady, on entering a convent, made over her property to the convent. After a year she left the convent, but delayed for five years before applying to the court to rescind her gift. HELD: She was defeated because of the unreasonable delay. Once she had left the convent, any undue influence had ceased and she should have taken prompt action in the matter.

G. VOID AND ILLEGAL CONTRACTS
For one reason or another, the state may either refuse to assist a person in enforcing certain contractual rights or it will declare a contract to be null and void. Contracts falling into these categories are, in some way, tainted. However, the reasons why they are tainted, and why the state takes or denies the actions it does, cover a very wide range of situations. A contract to commit murder may have all the ingredients of a perfectly valid contract. However, quite obviously, the state is not going to enforce it. Can you imagine the furore there would be if a judge made an order of "specific performance", compelling a man to carry out his contract to strangle someone's mother-in-law, according to its terms? At the other end of the scale, a contract may either be only mildly naughty or it may have no moral taint whatsoever, but merely be contrary to some state regulation. A contract to fiddle your income tax might fall into the former category, and one to sell goods without having obtained a statutory licence into the latter. However, all these wide varieties of contracts are contrary to public policy. They are all illegal contracts, which may be void ab initio, or they may be merely unenforceable.

Objects Illegal by Statute
Statute may declare certain types of contract void ab initio – that is, the contract itself is illegal and incapable of creating any rights. Certain gaming and wagering contracts fall into this category.

© ABE

Contract Law 2: Contract Regulations

147

The Gaming Act 1845 (as amended by the Gambling Act 2005), Section 18, states as follows: "All contracts or agreements ... by way of gaming or wagering shall be null and void ... no suit shall be brought or maintained in any court of law or equity for recovering any sum of money or valuable thing alleged to be won upon any wager." On the other hand, a contract may be void without being itself illegal, and all that happens is that no rights are created which can be enforced by the courts. There is no other penalty. An example of this occurred in Re Makmoud and Ishahani (1921). A wartime statutory order forbade the sale or purchase of linseed oil without a licence from the appropriate government department. A contract was made between P and D to sell linseed oil. Before making it, D falsely assured P that he possessed a licence. However, he later refused to take delivery, because he had no licence. HELD: The court would not entertain the action, as the statute clearly said that that kind of contract must not, in the public interest, be entered into. Yet again, a contract may in itself be perfectly lawful, but its performance may be illegal, or the particular method of performance may be forbidden. In St John Shipping Corporation v. Joseph Rank Ltd (1957), a shipping company so overloaded its vessel that she was submerged below her statutory load line. The cargo owners refused to pay the freight. HELD: The legality of the contract was not affected, but it amounted to a statutory offence. So, the cargo owners had to pay. On the other hand, in Ashmore, Benson, Pease & Co. Ltd v. A V Dawson Ltd (1973), D, a haulage company, was engaged by P to carry two 25-ton loads. These loads were loaded on to two 20-ton lorries under the eyes of P's manager. One of the lorries had an accident, and the load was damaged. HELD: P's claim for the loss suffered failed, as the manager must have realised that the lorries were overladen, and, hence, he participated in an illegal performance. The distinction between these two results is that, in the first case, the illegal performance was unknown to the cargo owners at the time, and, hence, there could be no justification for their refusing to pay the agreed freight. The statute merely provided a penalty for contravention, without making the contract itself void or illegal. In the second case, both parties knew of the illegal performance – and, so, damage directly resulting from the method of performance was irrecoverable. The important thing to remember about statutory illegality is that, because of the wide variety of reasons for which the legislature may interfere in private contracts or transactions, it is essential to read and construe the words of the statute properly. Some may merely provide a penalty for transgression, leaving the contract unaffected; others may make the contract itself void or unenforceable, while some provide for both a penalty and unenforceability. See: Westlaw Services Ltd v. Boddy (2010).

Gaming and Wagering
The subject of gaming and wagering is extremely complex. However, a short summary is called for. A wagering contract is one where there must be two parties or sides who both stand to win or lose on an uncertain event. Buying a sweepstake ticket, entering a coupon for the pools, or betting on the "tote" at a racecourse, are not wagering contracts. In all of these, only one of the parties stands to win or lose. Another essential of a wagering contract is that the parties have no interest in the contract, other than that created by the bet. This

© ABE

148

Contract Law 2: Contract Regulations

lets out of the category such transactions as insurance contracts and Stock Exchange bargains, both of which bear a superficial resemblance to wagering. The common law long discouraged betting, until the Gaming Act 1845 made such contracts null and void. It not only did this, but it also affected collateral contracts in the same way. In Hill v. William Hill (Park Lane) Ltd (1949), a racehorse owner failed to honour debts with a bookmaker. The bookmaker reported the matter to Tattersalls (a form of "court of honour" for horse-racing bets), which ordered the debt to be paid by instalments. The owner failed to comply. Tattersalls, therefore, threatened to report this non-compliance to the Jockey Club, which would have warned the owner off the turf. He bowed to the threat and gave the bookmaker a post-dated cheque, which bounced. HELD: The debt was irrecoverable. The House of Lords would not countenance the argument that the debt was not a gaming debt at all but, instead, an action on a dishonoured cheque. The cheque was collateral to the main contract of wager, and would not be enforced. The 1845 Act was further strengthened by the Gaming Act 1892, which extended the provisions to contracts of principal and agent, whereby one man employed another as his agent to make a bet. Finally, the Gaming Act 1968, while restricting the provision of credit for gaming, did liberalise the law in many respects. Games such as hazard and roulette, as well as games of chance played in a place habitually kept for gaming, were for a long time illegal by statute. The 1968 Act provided that certain games of chance could lawfully be played in such places under strict conditions.

Objects Illegal at Common Law
Public policy decrees that the courts will not assist parties who have made certain types of contract. The contract is not illegal to make, but its object is illegal. Public policy is an imprecise concept, and it changes as time goes by. There are, however, broad categories. (a) Agreements to commit a crime, a tort, or to perpetrate a fraud Plainly, a contract, the object of which is to commit a criminal offence, cannot be enforced. However, if an illegal act is committed during the performance of an otherwise perfectly lawful contract, it will not necessarily render the whole contract unlawful. In Archbolds (Freightage) Ltd v. S Spanglett Ltd (1961), a statute forbade the carrying of goods belonging to another for reward unless an "A" licence was held. D agreed with P to carry 200 crates of whisky belonging to a third party from Leeds to London. P was unaware that D did not hold an "A" licence. The whisky was stolen during the transit. HELD: The contract was perfectly valid, and it was only the method of performance that was illegal. Hence, the claim by P for the loss of the whisky was enforceable. In the same way, the courts will not enforce a contract the object of which is a tort – although, if a tort is committed in the course of a contract for other purposes, the contract will not, normally, be invalidated. In W H Smith & Son v. Clinton (1908), Clinton agreed to indemnify Smith, a firm of publishers, against the consequences of libel which might appear in a certain journal. Smith knowingly published a libel in that journal, and had to pay damages. The firm sought to recover from Clinton under the indemnity. HELD: The indemnity was unenforceable.

© ABE

Contract Law 2: Contract Regulations

149

The perpetration of fraud can take many forms, but all contracts having fraud as their object are unenforceable. One of the commonest forms is fraud against the Revenue. In Alexander v. Rayson (1936), Rayson agreed to lease Alexander's flat in Piccadilly for £1,200 a year. In order to reduce the rates payable, the transaction was effected by two documents: in the first place, a lease for £450 pa, covering certain landlord's services – and, in the second place, an agreement by the landlord to render substantially the same services for an additional £750 pa. HELD: The lease and the agreement were both documents intended for a fraudulent purpose; so, neither could be enforced. (b) Agreements injuring the state in relation to other states These can either be contracts with an enemy in time of war, or they can be contracts which are hostile to a friendly state. In the first place, any contracts with an alien enemy in wartime are illegal at common law. They are also illegal by statute, by virtue of the Trading with the Enemy Act 1939. It is forbidden to enter into or perform a contract with an alien enemy during a war, and even to perform such a one which was made before war broke out. Apart from any criminal penalties that may be provided by statute, such contracts are unenforceable. In the second place, agreements which contemplate a hostile act against a friendly country, or even an act to be performed in a friendly state which is illegal by the laws of that state, are contrary to public policy, and unenforceable in England. A partial exception to this is acts which contravene the revenue laws of another country. It is a principle of international law that no country will enforce the revenue laws of another. It used to be thought that this also extended so far that an agreement contravening foreign revenue laws would not be contrary to public policy in England. However, it has now been held that this proposition goes too far. The courts will not enforce foreign revenue laws, but, equally, they will not assist anybody unlawfully to circumvent them. An early case of acts hostile to a friendly state is De Wütz v. Hendricks (1824). Here de Wütz was attempting to raise a loan to support Greek rebels against the Turkish government. He deposited some papers in connection with the matter with Hendricks. The loan fell through, and de Wütz tried to recover the papers. HELD: The object was the overthrow of a friendly foreign state. Hence, the court would not assist in the recovery of the papers. Acts to be performed in a foreign country which are illegal by the laws of that country will, equally, not be enforced. In Regazzoni v. K C Sethia (1944) Ltd (1958), a contract was made to sell and deliver to Genoa, in Italy, jute sacks from India. Both parties knew that the ultimate destination of the sacks was South Africa. By the laws of India, the export of jute to South Africa was illegal. HELD: The contract would not be enforced in England. (c) Agreements which tend to harm the public service Any agreement which tends to harm the public service is contrary to public policy. Examples are:    Contracts for the sale of public offices The assignment of salaries from public offices Contracts for a person to use his/her influence to secure for another a title, a public or government office, or similar.

© ABE

150

Contract Law 2: Contract Regulations

In Parkinson v. College of Ambulance Ltd (1925), the secretary of the College of Ambulance promised Colonel Parkinson that, if he made a large donation to the college, which was a charitable institution, he would receive a knighthood. The Colonel made a large donation, and, not receiving his knighthood, he sued for the return of his money. HELD: The action failed, because the contract was against public policy and illegal. (d) Agreements to pervert the course of justice Contracts under this heading usually comprise agreements not to disclose crimes, or not to prosecute for criminal offences. They are unenforceable but, in addition, by virtue of the Criminal Law Act 1967, concealing an offence is itself a criminal offence. "Concealing" is committed if a person accepts a price, other than merely making good loss caused by the offence, for not disclosing the offence. (e) Agreements tending to abuse the legal process These largely comprise the acts of "maintenance" and "champerty".   Maintenance is the supporting (usually financially) of litigation in which the person maintaining has no legitimate interest. Champerty is where a person assists in litigation in exchange for a share in any proceeds gained from it e.g. a solicitor representing a client for a percentage of the damages awarded to his/her client. English law has always frowned on champerty, but it is the common practice in many foreign jurisdictions. This must be contrasted with a Conditional Fee Agreement, which is a perfectly legitimate arrangement between a potential litigant and his/her legal adviser. Both maintenance and champerty were, at common law, both torts and crimes. The Criminal Law Act 1967 abolished these, but contracts in respect of both are still contrary to public policy. See: Picton Jones v. Arcadia Developments (1989). Another type of abuse of the legal process is collusion in divorce. Nowadays, however, this is more honoured in the breach! (f) Agreements contrary to good morals Contracts which are for immoral purposes will not be enforced. In Pearce v. Brooks (1866), a firm of coach builders hired to a prostitute a coach with an interesting design. It was known to the firm that it would be used by her in plying her trade. She failed to pay the hire. HELD: The contract would not be enforced. See also: Armhouse Lee Ltd v. Chappell (1996). (g) Contracts in restraint of marriage which affect the due discharge of parental duty It is against public policy to restrain the freedom of marriage or to promote, for a fee, a marriage between one person and another. Likewise, agreements for a fee to promote a separation or divorce are unenforceable, or those to transfer rights and duties in respect of a child from its parents. (h) Agreements which oust the jurisdiction of the courts From a commercial point of view, this category is important. It is the right of every subject of the Queen to have his/her rights determined by the ordinary courts. Hence, any agreement to oust the courts is void. Arbitration agreements to refer any dispute arising under a contract to arbitration have long been acceptable, provided that the agreement did not preclude the parties from

© ABE

Contract Law 2: Contract Regulations

151

referring any point of law to the courts. In Scott v. Avery (1855), it was held that a clause in a contract providing that it should be a condition precedent to any course of action accruing that an arbitrator should have made an award was not contrary to public policy. Even nowadays, such provisions are called "Scott v. Avery clauses". The principle that parties to arbitration could refer a point of law to the court was enshrined in the Arbitration Act 1934. The principle has been eroded, but not done away with by the Arbitration Act 1979 (as amended), which provides that the parties may agree to exclude the right of appeal to the court. If they do not so agree, then the right remains. (i) Agreements in undue restraint of trade These also form a most important category of contracts, which are contrary to public policy, containing fine distinctions. The problem is that, prima facie, any agreement is void if the purpose of it is to restrict the liberty of a person in the future to carry on trade with persons who are not parties to the contract – that is to say, to restrain trade. But, at the same time, a person has every right to protect his interests and his business from unfair competition. There is an obvious clash between these two propositions. So, the principle is that a person may restrict the right of another to trade, only so far and to the extent that is necessary and reasonable to protect his legitimate interests. Each case must be considered separately, and the general rule is that every contract in restraint of trade is prima facie void unless the restraint(s) can be shown to be reasonable as between the parties, and not injurious to the public interest. Contracts in restraint fall into a number of categories.  Employer and employee This occurs where an employer inserts in a contract of employment clauses restricting her employee from engaging in a competing business after he has left the employment concerned. For example, a company may legitimately wish to prevent a salesperson from trying to take away all the customers on whom he calls, and transferring their custom to a rival company, if it later employs him. On the other hand, the salesperson has a right, which the law will respect, to earn a living in the manner of his choice. So, a covenant will be enforced which seeks to prevent an employee from competing after leaving that employment, provided it is no wider in geographical area and in time than is reasonably necessary to protect the employer's legitimate interests. What is "reasonable" in a given case will depend on the status of the employee, and on the rights which need protecting. In Sir W C Leng & Co. Ltd v. Andrews (1909), a junior reporter on a provincial newspaper was required not to be connected with any other newspaper within 20 miles of Sheffield. HELD: The constraint was unreasonably wide. In Foster & Sons Ltd v. Suggett (1918), a works manager was not permitted to engage in glass-making anywhere in the UK. HELD: It was reasonable, as the employee was trained in trade secrets which were applicable throughout the country. In Littlewoods Organisation Ltd v. Harris (1978), Harris was a director of the mail-order side of Littlewoods' business. His contract precluded him from working for any other mail-order company for 12 months after leaving Littlewoods' employment. He wished to join GUS Ltd, a rival mail-order business.

© ABE

152

Contract Law 2: Contract Regulations

HELD: The restraint was reasonable, in the sense that mail-order business is highly skilled and very competitive. Harris was a director, and in a position to know and supply many trade secrets. In determining what constitutes reasonableness, the courts occasionally adopt a common sense approach. In Clarke v. Newland (1991), a doctor in general practice was prevented by his contract from "practising" locally for three years after leaving the practice. He claimed that this restraint was unreasonable, since it could prevent him from working in a hospital as that could constitute "practising". HELD: The restraint was intended to apply to general practice only and would be valid to that extent. He could, therefore, be restrained from working in a rival general practice. If the employer is himself in breach of contract, he will not be allowed to enforce it, even though the restraint in itself is reasonable and the employee is in breach of the restraint. In Briggs v. Oates (1990), the employee had been wrongfully dismissed by his employer. His contract forbade him practising as a solicitor within a specified area. It was held that, since the employer had broken the contract by dismissing the employee, he could not be allowed to enforce it. If the courts decide that the employer is simply trying to prevent reasonable competition, then they will declare the restriction invalid. So, in Faccenda Chicken Ltd v. Fowler (1986), Fowler, an ex-employee, used information about prices and products sold by the company to set up in competition. The company tried to argue that he was misusing confidential information. The court held that the employer was simply trying to prevent competition. The information which the employee was using could not be described as confidential, since most of it, e.g. prices and products, was already public knowledge. The decision shows that the courts will not automatically take the employer's view of any situation. It is for the employer to prove that he/she is genuinely trying to protect against unfair competition by the ex-employee. See also: Hanover Insurance Brokers & Christchurch Insurance Brokers v. Schapiro (1994).  Sale of goodwill of a business If the restraint is merely to stop competition without protecting the business sold, it will be unenforceable. In Nordenfelt v. Maxim Nordenfelt Guns and Ammunition Co. Ltd (1894), Nordenfelt was an inventor and maker of guns. He sold his business to Maxim, and agreed that he would not, for 25 years, engage in the manufacture of guns. He was, however, permitted to deal in explosives, etc. After some years, he wanted to join a rival gunmaker. HELD: Although unrestricted as to geographical area, and lengthy as to time, the covenant was not unreasonably wide in the circumstances. This was especially so as Nordenfelt had received a very large sum of money for the sale of goodwill.  Supply of goods – vertical agreements This type of contract is where suppliers of goods have restricted agreements with the buyers – e.g. a wholesaler agreeing to purchase all his/her requirements for particular goods from a single manufacturer. A common form of this, nowadays, is the "solus" petrol agreement between oil companies and garages. In Esso Petroleum Co. Ltd v. Harper's Garage (Stourport) Ltd (1968), Mr Harper owned two garages. In respect of the first, he agreed with Esso to

© ABE

Contract Law 2: Contract Regulations

153

purchase only its petrol for 4½ years. In respect of the second, he mortgaged it to Esso for 21 years, in return for a loan of £7,000. He agreed that he would not redeem the mortgage during this period, and that he would, for the whole 21 years, buy only its petrol. HELD: The first agreement, lasting 4½ years, was reasonable. As regards the second, 21 years was far too long for the petrol tie, and unnecessary to protect Esso's interests, which were adequately secured by the mortgage. It was, therefore, unenforceable.  Supply of goods – horizontal agreements or cartels In cartels, manufacturers or dealers in similar goods band together to control the price or other conditions for sale, etc. These are, clearly, in restraint of trade – and, so, they are void at common law. It is only if they can positively be shown to be in the public interest that they will be enforced. In Re Motor Vehicle Distribution Scheme Agreement (1961), UK motor manufacturers agreed among themselves to sell their cars only through specially appointed dealers, who would be required to keep adequate stocks and spares, to purchase a fixed number of vehicles a year, and to purchase at the manufacturer's retail price, less a fixed discount. The manufacturers claimed that the agreement was in the public interest, because it kept in existence an efficient distribution network. HELD: The court ruled that the agreement was in restraint of trade. In addition, cartels and similar agreements are controlled by statute. We shall outline the law on this subject later in the course.  Exclusive service agreements Under these agreements, the employee is, in effect, agreeing to work only for the employer. Here, the courts are sometimes conscious of the inequality of the bargaining power of the respective parties. Simply put, if the courts feel that the employee is in a weak position and stands to gain less from the contract than the employer, then they will not enforce it. In Schroeder Music Publishing Ltd v. Macaulay (1984), an unknown songwriter entered into an agreement giving the publishers the full world copyright in all of his songs. The agreement also gave the publishers the right to terminate the contract or assign the benefit of it at any time. There was no corresponding duty to publish or promote any of the songwriter's compositions. HELD: This was an unreasonable restraint of trade. The court was apparently influenced by the inequality of bargaining power of the parties. However, later cases seem to suggest that the granting of relief on the ground of inequality of bargaining power may be in decline. However, contrast: Panayiotou v. Sony Music International (UK) Ltd (1994). You should note that, if the court decides that a party is genuinely trying to protect against unfair competition, but the wording of the restraint is too restrictive, it may consider using severance. For severance to be applied, the court must be satisfied on several issues:     That the contract can be split into separate components That those components are capable of standing alone and being enforceable as separate contracts That no rewording of the contract is required That the unenforceable part is a relatively minor part of the contract as a whole.

© ABE

154

Contract Law 2: Contract Regulations

You can see an example in Goldsoll v. Goldman (1915). The claimant bought the business of the defendant who traded in imitation jewellery in the United Kingdom. One of the terms of the contract was that the defendant would not trade in imitation or real jewellery either in the United Kingdom or in certain foreign countries. It was held that the restraints concerning real jewellery and foreign countries could be severed, and that the contract could be enforced in respect of the sale of imitation jewellery in the United Kingdom only. In Marshall v. N M Financial Management Ltd (1995), the defendant company, which was operating in the financial services sector, had engaged the claimant as a selfemployed agent selling life assurance and other financial services. He received commission from them for business introduced by him and his contract of engagement stated that entitlement to commission would cease on termination of the contract. It also stated that commission arising prior to, but not paid at, termination would be remitted within one year of termination, provided that the claimant was not employed by a competitor during that year. The claimant terminated his contract of engagement with the defendant company and immediately joined a competitor. He claimed for prior commission due to him on termination, but this was refused by the defendant company. HELD: The commission claimed was legally due to the claimant. The contractual provision was in restraint of trade, because it could not be justified as reasonably necessary to protect the lawful interest of the defendant company in conserving its existing customer base. The unlawful restriction could also be severed from the rest of the contract, because the real consideration for the payment of prior commission derived from the claimant's service under his contract, not an agreement not to compete.

H. EXCLUSION CLAUSES
What is an Exclusion Clause?
An exclusion clause is a clause which purports to exclude liability for the happening of certain events e.g. liability for personal injury or death due to negligence. To be valid, exclusion clauses must satisfy the requirements of:    The common law The Unfair Contract Terms Act 1977 The Unfair Terms in Consumer Contracts Regulations 1999.

Common Law
The following requirements at common law need to be met for an exclusion clause to be valid:   The exclusion clause must have been incorporated into the contract by signature, by notice or by a previous course of dealings; and The clause must cover what actually happened: Parties seeking to rely on exclusion clauses must use very clear words to exempt themselves from liability. When interpreting exclusion clauses the contra proferentem rule is used.

Especially clear language must be used to exclude liability for negligence. For example, through the use of the word “negligence” in the clause: White v. John Warwick & Co. Ltd (1953) and Hollier v. Rambler Motors (AMC) Ltd (1972). If clear language is not used, liability for negligence may still be excluded, if the language of the clause is sufficiently wide

© ABE

Contract Law 2: Contract Regulations

155

to cover negligence. For example, clauses often provide that liability for harm or danger is to be excluded "howsoever caused": In White v. Warwick (1953), the plaintiff hired a bicycle from the defendants under a written agreement, which included a provision that "nothing in this agreement shall render the owners liable for any personal injuries". The plaintiff was injured when the saddle tilted forward and the Court of Appeal found the defendants liable in negligence. The exclusion clause was construed so as to exclude only the concurrent liability that would otherwise have arisen under the contract. In Hollier v. Rambler Motors (1972), the plaintiff made an oral agreement with the defendants that they would repair his car. He had used the same garage three or four times over the previous five years and, on at least two occasions, had been asked to sign an "invoice" excluding liability for damage by fire. A fire broke out in the garage through the defendant's negligence and the car was damaged. Salmon LJ said that the clause could and should be interpreted as covering only damage caused by fire resulting from causes other than negligence. Under the common law, an exclusion clause can be incorporated into a contract in three ways. (a) By signature If you sign a written contract, then you are bound by its terms, whether you have read and understood them or not, in the absence of any misrepresentation: L' Estrange v. F. Graucob Ltd (1934): In this case the plaintiff ordered a slot machine from the defendants and signed a standard printed order form including (in very small print) a clause excluding any kind of warranty. The machine did not work and the plaintiff claimed not to be bound by the exclusion clause, which she had not read. The court found against her: in the absence of misrepresentation, a party who signs a document is normally bound by its contents, whether or not he has read them. If your signature on a written contract has been obtained by the other party misrepresenting the true meaning of an exclusion clause, you will not be bound by its terms, irrespective of whether you have read and understood them: Curtis v. Chemical Cleaning and Dyeing Co. (1951): In this case the plaintiff took a satin wedding dress to the defendants to be cleaned. She was asked to sign a document containing a clause excluding the defendants' liability for damage of any kind; before signing, she asked what the document was and was told that it excluded liability for damage to beads or sequins. The plaintiff signed without reading the document; the dress was stained during cleaning and the plaintiff sued. The Court of Appeal found in her favour: the assistant's innocent misrepresentation of the effects of the document had the effect of excluding the clause from the contract. (b) By notice If notice of an exclusion clause's existence has been given to the other party before or at the time the contract was made, the details of the clause itself need not be communicated: Olley v. Marlborough Court Hotel (1949) and Thompson v. London Midland and Scottish Railway Co. (1930). In the latter case, the plaintiff went on a railway excursion and was given a ticket with the words "Excursion: for conditions see back". On the back was a notice referring customers to the conditions printed in the company's timetables (which cost 6d each); these conditions excluded liability for any injury. The plaintiff was injured on the journey, but lost her claim. The Court of Appeal said the ticket was a contractual document and the fact that the plaintiff could not read did not alter the legal position. She should have realised that the special excursion price might imply special conditions. In cases where a notice board is used, it must be sufficiently large and be placed in a prominent position: Thornton v. Shoe Lane Parking Ltd (1971). In this case the

© ABE

156

Contract Law 2: Contract Regulations

plaintiff parked his car in the defendant's car park, paying his money and taking a ticket from the automatic machine at the entrance. On the ticket, in small print, was a notice referring to conditions displayed in the car park; these were not visible from outside and were quite lengthy, including one excluding liability for any injury to a customer. When the plaintiff returned later to collect his car, there was an accident in which he was seriously injured and he sued. The Court of Appeal struck out this exclusion clause, holding that so wide ranging and unusual an exclusion called for exceptionally clear and explicit notice. Where some form of document is used to incorporate an exclusion clause by notice, the exclusion clause will only be valid if a reasonable person would expect contractual terms to be present in or on the document: Chapelton v. Barry UDC (1940): In this case the plaintiff hired a deckchair belonging to the defendants, paid the hire fee and took a ticket without reading it. The chair collapsed and the plaintiff was injured; the defendants relied on a clause printed on the ticket excluding liability for any injury. The Court of Appeal said the ticket was not a contractual document – no reasonable person in the circumstances would have thought it anything more than a receipt – so the clause had not been incorporated in the contract. (c) By a previous course of dealings Terms which have previously been included following a previous course of dealings (or following trade custom) may be incorporated into the contract without being specifically referred to: British Crane Hire Corporation Ltd v. Ipswich Plant Hire Ltd (1974). In this case, the defendants hired a dragline crane from the plaintiffs on the strength of an agreement made by telephone, with the documentation to be sent on later. The conditions of trade in these documents included an undertaking that the defendants would indemnify the plaintiffs for any damage. Before the documents had been signed, the crane (without fault by anyone) sank in marshy ground and the plaintiffs claimed on the indemnity. The Court of Appeal allowed the clause to stand as part of the contract. Although it had not expressly been drawn to the defendant's attention at the time of the verbal contract and there was no common course of dealing between the parties, both were members of a trade association and commonly used their standard conditions (including a term such as this) and both would have assumed that some conditions were to be applied. Transactions must be frequent and regular enough to constitute a course of dealings: Hollier v. Rambler Motors (1972). In this case, the plaintiff made an oral agreement with the defendants that they would repair his car. He had used the same garage three or four times over the previous five years and, on at least two occasions, had been asked to sign an "invoice" excluding liability for damage by fire. A fire broke out in the garage through the defendant's negligence, and the car was damaged. When the case was being heard by the Court of Appeal, Salmon LJ said that three or four transactions over five years could hardly be regarded as a "course of dealing" giving sufficient notice of the term.

Unfair Contract Terms Act 1977
In accordance with the Unfair Contract Terms Act 1977, two main requirements need to be satisfied in order for an exclusion clause to be valid. (a) If it does not purport to exclude or restrict liability for death or personal injury resulting from negligence: Section 2(1), Unfair Contract Terms Act 1977. Section 1 of the UCTA 1977 defines “negligence” as not taking reasonable care or exercising reasonable skill in the performance of the contract and of any common law duty to take reasonable care or exercise reasonable skill.

© ABE

Contract Law 2: Contract Regulations

157

(b)

If it passes the test of reasonableness. In the case of loss or damage (other than death or personal injury), a person cannot exclude or restrict his liability for negligence, except insofar as the term satisfies the requirements of reasonableness in Section 11(2) of the 1977 Act: Section 2(2), Unfair Contract Terms Act 1977. Section of the 1977 Act defines a “reasonable” term in this context to be a term which is "a fair and reasonable one to be included (in the contract) having regard to the circumstances which were, or ought reasonably to have been known to or in the contemplation of the parties when the contract was made". Guidance on what would be considered a reasonable exclusion clause is provided by Phillips Products Ltd v. Hyland (1987). In this case, the plaintiffs hired an excavator and driver from the defendant under a contract providing that the hirer was to be responsible for all damage arising from the driver's work. The driver caused damage and the plaintiffs sued. Kenneth Jones J said he was not satisfied that the term was fair and reasonable. The Court of Appeal upheld this decision on the basis that the trial judge's decision was not clearly wrong and added that, in deciding whether a clause was reasonable, the courts would look at its effect rather than its form. Guidance on what would be considered an unreasonable exclusion clause is provided by George Mitchell (Chesterhall) Ltd v. Finney Lock Seeds Ltd (1983). In this case the appellants, a firm of seed merchants, contracted to sell to the respondents 30lb of Dutch winter cabbage seed for £201.60. The respondents planted 63 acres with the seeds. However, the resultant crop was worthless, partly because of the fact that the seed delivered was autumn seed and partly because, even as autumn seed, it was of inferior quality. The respondents sued for damages for loss of the crop and the appellants argued in their defence that they were protected by a clause in their standard conditions of sale limiting their liability to the replacement cost of the seed or refunding payment. The relevant wording of the clause that they were seeking to rely on was that: "..all liability for any loss or damage arising from the use of any seeds or plants supplied by us and for any consequential loss or damage arising out of such use….or for any loss or damage whatsoever". The House of Lords held that this clause was sufficiently clear and unambiguous to be effective at common law, but that it did not pass the reasonableness test in Section 11 of the Unfair Contract Terms Act 1977. Moreover, in concluding that the aforementioned clause was unreasonable, the House of Lords attached considerable weight to evidence, ironically, given by the sellers that they commonly made ex gratia payments in the case of complaints from customers, which they regarded as “justified”. This was treated as evidence that the sellers, prima facie, did not themselves regard their terms of sale as reasonable. Other factors which contributed to this finding of unreasonableness were the fact that the seller's breach was the result of gross negligence. To this end, this last factor is often regarded as an important one by the courts, as questions of the most economic insurance arrangement are intimately connected with the reasonableness test. Section 11(4) of the Unfair Contract Terms Act 1977 states that regard should be had to: "(a) the resources which he could expect to be available to him for the purpose of meeting the liability should it arise; and (b) how far it is open to him to cover himself by insurance." From the above wording of Section 11((4)(a), it appears that there must be a reasonable relationship between resources and the limitation of liability which it is thought to justify.

© ABE

158

Contract Law 2: Contract Regulations

Unfair Terms in Consumer Contracts Regulations 1999
In accordance with the Unfair Terms in Consumer Contracts Regulations 1999, any terms which have not been individually negotiated in contracts between consumers and commercial sellers or suppliers of goods and services, will only be valid in so far as they can be regarded as fair contractual terms. If any terms which have not been individually negotiated in contracts between consumers and commercial sellers or suppliers of goods and services, are held to be “unfair” by the courts, they do not bind the consumer. In this context, an unfair term is any term which is contrary to the requirement of good faith and causes a significant imbalance in the parties' rights and obligations, arising under the contract, to the detriment of the consumer. Schedule 2 of the Unfair Terms in Consumer Contracts Regulations 1999 sets out an indicative and non-exhaustive list of terms which may be regarded as unfair. These include terms which have the object or effect of:  Excluding or limiting the legal liability of a seller or supplier, in the event of the death of a consumer, or personal injury to the latter, resulting from an act or omission of that seller or supplier Inappropriately excluding or limiting the legal rights of the consumer vis-à-vis the seller or supplier or another party, in the event of total or partial non-performance or inadequate performance by the seller or supplier of any of the contractual obligations, including the option of offsetting a debt owed to the seller or supplier against any claim which the consumer may have against him Making an agreement binding on the consumer, whereas provision of services by the seller or supplier is subject to a condition whose realisation depends on his own will alone Permitting the seller or supplier to retain sums paid by the consumer, where the latter decides not to conclude or perform the contract, without providing for the consumer to receive compensation of an equivalent amount from the seller or supplier, where the latter is the party cancelling the contract Requiring any consumer who fails to fulfil his obligation to pay a disproportionately high sum in compensation Authorising the seller or supplier to dissolve the contract on a discretionary basis, where the same facility is not granted to the consumer, or permitting the seller or supplier to retain the sums paid for services not yet supplied by him, where it is the seller or supplier himself who dissolves the contract Enabling the seller or supplier to terminate a contract of indeterminate duration without reasonable notice, except where there are serious grounds for doing so Automatically extending a contract of fixed duration where the consumer does not indicate otherwise, when the deadline fixed for the consumer to express his desire not to extend the contract is unreasonably early Irrevocably binding the consumer to terms with which he had no real opportunity of becoming acquainted before the conclusion of the contract Enabling the seller or supplier to alter the terms of the contract unilaterally, without a valid reason which is specified in the contract Enabling the seller or supplier to alter unilaterally, without a valid reason, any characteristics of the product or service to be provided Providing for the price of goods to be determined at the time of delivery or allowing a seller of goods, or supplier of services, to increase their price without, in both cases,

 

 

   

© ABE

Contract Law 2: Contract Regulations

159

giving the consumer the corresponding right to cancel the contract, if the final price is too high in relation to the price agreed when the contract was concluded  Giving the seller or supplier the right to determine whether the goods or services supplied are in conformity with the contract, or giving him the exclusive right to interpret any term of the contract Limiting the seller's or supplier's obligation to respect commitments undertaken by his agents or making his commitments subject to compliance with a particular formality Obliging the consumer to fulfil all his obligations where the seller or supplier does not perform his Giving the seller or supplier the possibility of transferring his rights and obligations under the contract, where this may serve to reduce the guarantees for the consumer, without the latter's agreement Excluding or hindering the consumer's right to take legal action or exercise any other legal remedy, particularly by requiring the consumer to take disputes exclusively to arbitration not covered by legal provisions, unduly restricting the evidence available to him or imposing on him a burden of proof which, according to the applicable law, should lie with another party to the contract.

  

© ABE

160

Contract Law 2: Contract Regulations

© ABE

161

Chapter 7 Contract Law 3: Performance and Discharge
Contents
A. Performance General Time of Performance Partial Performance of an Entire Contract Payment Tender

Page
162 162 162 163 164 164

B.

Discharge by Agreement Release Accord and Satisfaction Rescission Provisions Contained in the Contract Itself

165 165 165 166 167

C.

Discharge by Breach Renunciation Impossibility Created by One Party Failure of Performance

167 167 168 169

D.

Discharge by Frustration Introduction Test of Frustration Illustrations of Frustration Self-induced Frustration Legal Consequences of Frustration Force Majeure

169 169 170 170 172 173 174

E.

Remedies for Breach of Contract Damages – General Damages – Causation Damages – Calculation Liquidated Damages or Penalties Specific Performance and Injunction Anton Piller Order (Search Order) Limitation of Action

174 174 176 178 179 180 182 182

© ABE

162

Contract Law 3: Performance and Discharge

A. PERFORMANCE
General
There are a number of rules affecting the performance of a contract. The cardinal one is that a person must perform exactly what he/she has promised to do. Doing something different from that agreed to, even though it may be commercially more valuable to the other party, is not performance in law. In Re Sutro & Co. and Heilbut Symons & Co. (1917), it was held that a contract of carriage of goods by sea from Singapore to New York, with liberty to transship at other ports, was not performed by carrying them partly by sea and partly by rail. Even the slightest deviation from the agreed terms will entitle the other party to claim that the contract has not been performed and to sue for damages or, in certain cases, to treat the contract as discharged by reason of the breach. In Re Moore & Co. and Landauer & Co. (1921), a contract was for the supply of 3,000 tins of canned fruit, to be packed in cases of 30 tins each. Part of the consignment was packed in cases of 24 tins. HELD: The entire consignment would be rejected by the buyers. This rule is, however, subject to the "de minimis" rule – that is, the law will not take note of trivial matters or indifferences. If a contract entails no personal skill, a contracting party may get someone else to perform it on his/her behalf (although he/she, of course, remains liable). However, if it envisages the personal performance of the promisor, whether expressly or by implication, then he/she alone must perform it.

Time of Performance
You would think, from the above rules, that, if a contract stipulated a time by which performance must be completed, and that time is exceeded, the innocent party could treat the contract as discharged, if he/she wished. However, that is not, normally, the case. At common law it was so, but equity would always relieve a party from the harsh effects of such a rule, if it reasonably could. The Law of Property Act 1925, Section 41, ensured that equity would prevail. Therefore, it is now in only three circumstances that "time is of the essence" of a contract. The effect of this is that, except as stated below, time of performance is merely a warranty, breach of which will give rise to a claim for damages only. It is not a condition, allowing the innocent party to rescind. However, time is a condition in the following situations:  Where the parties expressly state in the contract that time is of the essence or must be strictly complied with. The form of words used is not significant, provided the intention is clear. Where the circumstances of the contract or of the subject matter show that strict compliance with stipulations as to time was intended or should necessarily be implied. Where time was not originally of the essence, but because of undue delay, one party has given notice that the contract must be performed by a specified reasonable date. In Charles Rickards Ltd v. Oppenheim (1950), Oppenheim ordered a Rolls Royce chassis in early 1947. In July, Rickards agreed that the body should be built for it "within six or at most seven months". Seven months later, it was not completed; so, Oppenheim agreed to the company taking a further three months. At the end of this

 

© ABE

Contract Law 3: Performance and Discharge

163

time, it was still not ready. Oppenheim served notice on Rickards that, if the car was not ready in four weeks, he would cancel the order. It was not – so he cancelled. Three months later, the finished Rolls Royce was tendered, but Oppenheim refused to accept it. HELD: He was entitled to do so. Time was not, originally, of the essence, but because of Rickards' breach, the notice requiring completion in four weeks served to make time of the essence. See also: British & Commonwealth Holdings plc v. Quadrex Holdings Inc (1989). If a contract does not specify any time for performance or, if vague words are used, such as "as soon as possible", or "with all dispatch", then an obligation is implied by law to perform within a reasonable time. See also: Union Eagle Ltd v. Golden Achievement (1997).

Partial Performance of an Entire Contract
The complete performance of an entire contract is, normally, a condition precedent to any liability on the other party – e.g. to make payment. The courts cannot apportion the consideration – so, unless the contract is completed, nothing is due on account of it. The classic example is Cutter v. Powell (1795). A seaman was engaged for a lump sum on completion of the voyage. He died part way through the voyage, and it was held that his executors could not claim any wages for the time prior to his death. The common law rule on entire contracts was largely developed by building or "work and materials" contracts. So, unless the contract provided for stage payments, if a builder failed to complete a house, he/she could recover nothing, even though the owner would have derived substantial benefit from the work that had been done and materials provided (modern building contracts always provide for stage payments). Likewise, a ship owner cannot recover freight if the goods are not carried to the agreed destination (bills of lading, therefore, always provide for freight to be payable, "cargo lost or not lost"). From these two examples, you will see that, by express words, a contract can allow for partial payment in the event of incomplete performance. In addition, to alleviate what could be an absurdity, the doctrine of "substantial performance" has evolved. This says that, if a person has completed the contract in all but an insignificant or unimportant part, he/she is entitled to payment for the whole, less any amount for the uncompleted work. What is "substantial performance" is a question of fact, depending on the circumstances and the details of the contract. "Substantial performance" can be excluded by express words in the contract. However, if a contract is only partially completed and the circumstances are such that the court can reasonably imply it, then it may imply a fresh contract to accept what has been performed and pay on a "quantum meruit", i.e. for what has been done. This is likely to occur by implication where the innocent party has actually accepted some benefit under the contract. For example, in contracts for sale of goods, a buyer is not compelled to accept a different quantity from that ordered. However, if he/she does accept them, they must be paid for at the contract rate for what has been taken. A similar principle applies where an employee performs only part of his/her contract, e.g. as part of some industrial action. In Miles v. Wakefield Metropolitan District Council (1987), a Superintendent Registrar of Births, Marriages and Deaths refused to perform marriage ceremonies on Saturday mornings. His employers deducted from his salary the time spent on such refusal. He challenged the validity of the deductions.

© ABE

164

Contract Law 3: Performance and Discharge

HELD: The employers had behaved properly. They were not bound to choose between dismissing him and paying for incomplete work. This principle was taken further in Wiluszynski v. Tower Hamlets London Borough Council (1989). Here the employer issued all employees working to rule (withholding specific duties) with a notice rejecting their part performance of the contract and informing them that they would not be required to work at all, unless they were prepared to do all that their contract required. The Council also stated that if the employees wished to enter the offices and work, such work would, therefore, be deemed to be voluntary and unpaid. Whereas, in Miles, the employer had merely deducted a proportion of the salary representing the work not done, here the Council sought to avoid payment completely. HELD: As the employees were offering only part performance, the employer was within its rights to reject the part performance and refuse to pay at all. On the other hand, if a contract is not "entire" but it is divisible, the court can treat each part as entire. Those divisible parts which are completed must be paid for.

Payment
A contract may provide for payment in a certain manner or at a certain time and, if complied with, this serves to discharge the obligation to pay. If there is no specific provision, the strict rule is that payment must be made in legal tender. If the creditor accepts a cheque, bill of exchange, or other negotiable instrument, he/she is, in reality, agreeing to a variation of the contract. However, if such a negotiable instrument is dishonoured, the creditor has two remedies: he/she can sue for the value of the dishonoured cheque or other instrument, or revert to the original contract, and sue for payment under it. In practice, it is, usually, simpler to sue in respect of the instrument, as then no proof is required that the contract has been performed, and the money is due. Should payment be made by a third party who is not jointly liable under the contract, then the debt is not discharged, unless the third party pays as agent for the debtor and with his/her authority. However, if the creditor requests the debtor to make payment to a third party, this, when made, discharges the debt. The time of payment is a question of the construction of the contract. It may be expressly stated, or to be necessarily inferred from the terms. However, if nothing is stated or to be inferred, the debtor must pay when the work is completed and he/she has had a reasonable opportunity to inspect it. Money which is stated to be "payable on demand" must be ready and handed over when demanded. The place of payment is, unless otherwise stated in the contract, or to be inferred from it, the place of business or residence of the creditor. It is the debtor's job to seek out the creditor and pay him/her. Proof of payment may be given in any way. A "receipt" is only prima facie evidence of payment.

Tender
"Tender" is the act of attempted performance. It applies to both parties. One party may tender work in performance of his/her promise; the other may tender payment. If the one party tenders work, and the other refuses to accept it, the tenderor may elect to treat the contract as repudiated, and sue for damages. On the other hand, if a debtor tenders payment, and the creditor refuses to accept it, the debt is not discharged. The debtor must continue and remain ready to pay the debt. Should the creditor sue, the debtor can plead that he/she duly tendered it – but must still pay the money into court.

© ABE

Contract Law 3: Performance and Discharge

165

As we said before, unless the contract provides otherwise, strictly speaking, tender of payment must be in legal tender. The creditor is not bound to accept a cheque or other instrument of payment. That is the old rule but nowadays, in commercial transactions, any recognised method of transferring money which gives the creditor immediate use of the funds will suffice. Note: Specific rules as to payment and performance apply to contracts for the sale and supply of goods.

B. DISCHARGE BY AGREEMENT
You would think that, as a contract comes into existence only by agreement, its discharge, or ending, could equally easily be effected by agreement. Up to a point, this is true but, in the same way as there are various technical rules governing the valid formation of the contract, so there are rules, some rather artificial, governing its discharge. There are four ways in which a contract can be discharged by agreement: by "release"; by "accord and satisfaction"; by "rescission"; and by some provision contained in the contract itself. Let us look at these in some detail.

Release
If one party releases another from his/her obligations, there is, normally, no consideration for the act. This applies where the party releasing the other has fully performed all his/her obligations, while the other has not. If both of them still have obligations to perform, the consideration for each foregoing his/her rights is the foregoing by the other. However, if there is no consideration, a unilateral release can be effective only if it is under seal. You will remember that a contract under seal is valid even if no consideration is present. An agreement not to sue in perpetuity has always amounted to a "release". However, such a covenant, for a limited time only, was, at common law, not a valid release. Equity, however, would interfere to grant an injunction to prevent a party suing in breach of his/her agreement not to sue. Hence, as Equity prevails, an agreement not to sue is, in effect, a valid release, whether it be in perpetuity or for a limited time, provided, of course, the agreement is either for valuable consideration or under seal.

Accord and Satisfaction
Provided consideration is present, a contract can be discharged by agreement, even though only one party has fulfilled all his/her obligations. This is called "accord and satisfaction". The "accord" is the agreement; the "satisfaction" is the consideration. Provided that the satisfaction is valuable consideration (in exactly the same way as the consideration for the valid formation of a contract must be valuable), all is well. In this context, it can, of course, be some other performance than that of the original obligation. You will remember that, earlier, we discussed the rule in Pinnel's Case. This states that the payment of a smaller sum in satisfaction of a larger is not a good discharge of a debt. However, if the payment of the smaller sum is made in a different way, or at a different time from that prescribed for the larger sum, this difference constitutes adequate consideration to support the agreement for discharge of the whole debt. This is an example of discharge by accord and satisfaction. There are two main exceptions to the rule requiring consideration for the discharge of a contract by agreement, where one party has not fully performed. The first is statutory. Under the Bills of Exchange Act 1882, no "satisfaction" is required for the discharge of a bill of exchange, provided either the discharge is in writing or the bill itself is delivered up to the person who accepted it.

© ABE

166

Contract Law 3: Performance and Discharge

The second exception, which is, perhaps, only a partial one, arises through the principle of what is known as promissory estoppel, which we mentioned earlier. This principle states that, if one party intimates to the other that she will not insist on her strict contractual rights and the second party, in reliance on that statement, incurs expense or obligations, then the first party will not be permitted, by equity, to go back on her promise. The principle was largely developed by Lord Denning in Central London Property Trust Ltd v. High Trees House Ltd (1947). In this case, P leased a block of flats to D, in 1937, for £2,500 a year. In 1940, on account of the war, D was unable to let the flats to tenants, so P agreed to reduce the annual rent to £1,250. At the end of the war, the situation returned to normal, and all the flats could be let. P claimed that the full rent should be paid, only from the end of the war, in June 1945. HELD: P succeeded but Lord Denning made it quite clear that, had they sued for a refund of the amounts underpaid from 1940, they would have been estopped by the promise from insisting on their strict legal claim. Because the lessees had acted to their detriment in reliance on a promise to forgo rights, the original rights could not be enforced. So, promissory estoppel serves to postpone and not totally to obliterate the strict rights. Once the circumstances giving rise to the promise have disappeared, or reasonable notice has been given that, in future, strict performance will be required, the legal rights revive. See also: Re Selectmove Ltd (1995).

Rescission
While a contract is still executory, that is, it has not been fully performed by both sides, it can be discharged by mutual agreement, the consideration for the agreement being the mutual giving-up of rights under the contract. In the court context, the remedy is rescission: it recognises and enforces the contract termination. The effect of joint repudiation is that the contract is discharged and rights under it cannot afterwards be revived, although money paid in respect of an agreement that has proved abortive can be recovered by an action for "money had and received" (quasi-contract). By the same token, a contract can always be varied by agreement. Here, the terms of the contract are altered, but the original contract still subsists. Whether such an action is, in reality, a variation or whether it amounts to rescission of the original, followed by a new contract incorporating the altered terms, is a question of construction and scope. In Morris v. Baron & Co. (1918), there was a contract for the sale of cloth. A dispute arose, and legal action started. The parties then agreed to stop their legal action, that an extension of time for payment should be given to the buyer, and that, instead of having to take delivery of the balance of the cloth, he should have an option to take it only if he wished. HELD: This amounted to a discharge of the original contract, followed by a substituted contract. However, in Berry v. Berry (1929), a husband and wife separated, and the husband agreed to pay a certain annual maintenance. His income proved insufficient, so both parties agreed that the sum should be reduced. HELD: This was a valid and enforceable variation. See also: Islington London Borough Council v. UCKAC (2006). A waiver is another variant on the same theme, and it is akin to a "release". This applies when one party agrees not to insist on the exact method of performance by the other fixed by the contract. He/she agrees to waive his/her rights to strict contractual performance. Unless the doctrine of promissory estoppel can be brought into play, there must be some valuable consideration for a waiver, or else it must be under seal. See the case of Charles Rickards Ltd v. Oppenheim (1950).

© ABE

Contract Law 3: Performance and Discharge

167

Provisions Contained in the Contract Itself
This is fairly obvious. If the contract itself provides for its discharge in certain circumstances, then this is an agreed contractual term. The question of consideration does not apply, as it is part of the consideration for the contract.

C. DISCHARGE BY BREACH
Earlier we defined the difference between "conditions" and "warranties" – a condition being a term of the contract which is fundamental, and breach of which entitles the injured party to rescind the contract. The contract is, therefore, discharged by breach. What this means is that the injured party is discharged from the necessity for further performance by reason of the breach of contract by the other. The innocent party is not bound to rescind in the event of breach of a condition by the other; he has the option to do so. He can rescind and claim damages or he can affirm the contract and carry on with his own performance. If he does affirm it, he is still able to claim damages for any loss resulting from the breach. In other words, he is electing to treat the condition breached as if it were a warranty. In Poussard v. Spiers and Pond (1876), the plaintiff, an actress, agreed to play the leading role in an operetta to be produced by the defendants. Owing to illness, she could not attend the last rehearsal or the first four performances and, when she offered to take her part in the fifth performance, the defendants refused. The plaintiff sued for wrongful dismissal, but the court said her participation in the first four performances was a condition fundamental to the contract and its breach by the plaintiff entitled the defendants to treat the contract as terminated. If you look at the question from the other side, the person guilty of such a breach giving rise to a right of rescission brings this about in one of three ways: by renouncing her obligations to perform, by creating a situation whereby it is impossible for her to perform or by a complete or partial failure to perform her obligations.

Renunciation
If one of the parties, by his words or his actions, makes it plain that he has no intention of performing or continuing to perform his side of the bargain, he is said to renounce the contract. In order to justify the innocent party then treating the contract as discharged, the renunciation must be substantially complete. A mere refusal to carry out a part is not sufficient, unless that part is an essential element of the contract. The test is: "Would a reasonable person conclude from his/her words or deeds that he/she no longer intended to be bound by the terms of the contract?" Renunciation can occur either before the time for performance has arrived or during its course. In the latter event, the problem is straightforward. Whether renunciation has occurred such as to entitle the innocent party to rescind is a matter of fact for the court. See: Fercometal SARL v. Mediterranean Shipping Co. SA (The Simona) (1989). However, in the former event, the innocent party has a choice. (a) (b) He can wait for the time of performance to arrive, then sue for damages and, if applicable, refuse himself to perform by reason of the renunciation. He can, forthwith, treat the renunciation as absolving him from the necessity to perform, and sue for damages. This is called "anticipatory breach". If one party, by words or

© ABE

168

Contract Law 3: Performance and Discharge

conduct, leads the other to reasonably believe that he does not intend to be bound by his agreement, the law does not require that other party to await the inevitable. To protect himself or to mitigate his loss, he is quite entitled to anticipate the inevitable event and act accordingly. In Hochster v. De la Tour (1853), a travelling courier was appointed for a journey. Before the time for the start, the employer wrote to say he no longer required the services of the courier. The courier immediately sued for damages. HELD: He was entitled to do so. He need not await the inevitable. A more recent case, which illustrates not only the doctrine of anticipatory breach, but also what constitutes grounds for repudiation of a contract by reason of the renunciation of it by the other party, is Federal Commerce v. Molena Alpha (1979). By identical charter-party agreements, the owners of three ships chartered them to charterers. Part of the agreements was that the ships' masters were entitled to issue "freight paid" bills of lading (i.e. warranting that the freight on cargo was duly prepaid), and that the charterers were entitled to make deductions from the hire charge in specified events. One of these was in respect of delay as a result of slow steaming. The ships were delayed by engine repairs and slow steaming, so the charterers informed the owners that they were deducting a certain sum from the hire due. The owners refused to authorise the deduction, and demanded full payment. The charterers nevertheless deducted it. The owners retaliated by instructing the masters of their vessels not to issue any "freight prepaid" bills of lading. They well knew that this action would place the charterers in a very difficult situation. When this happened, the charterers claimed that the owners' actions were a renunciation of the contract which they accepted as such, and which constituted a discharge of the contract. HELD: By the House of Lords, in the first place, that the instruction to the ships' masters was an anticipatory breach of contract. Second, that, although the clause in question that had been breached was not one that automatically amounted to a repudiation, the fact was that it threatened to deprive the charterers of substantially the whole benefit of the contract. It therefore went to the root, and did entitle the charterers to terminate the contracts. Lord Wilberforce had the following to add: "A threat to commit a breach, having radical consequences, is nonetheless serious because it is disproportionate to the intended effect. Further, if a party's conduct is such as to amount to a threatened repudiatory breach, his subjective desire to maintain the contract cannot prevent the other party from drawing the consequences of his actions." See also: Durham Tees Valley Airport Ltd v. bmibaby Ltd (2010).

Impossibility Created by One Party
If one party, by his/her own actions (or lack of them) creates a situation whereby it is impossible for him/her to perform, he/she is not allowed to rely on the impossibility as being an excuse for not performing. The other party is entitled to treat the contract as discharged. If the impossibility is created before the time of performance, it will often, but not necessarily, give rise to anticipatory breach. In Universal Cargo Carriers Corporation v. Citati (1957), the charterer of a ship contracted to nominate a berth, provide a cargo and load it; all before a given date. Three days before this date, he had done none of these things. HELD: The ship owner could treat the contract as discharged, as it would be impossible to perform, owing to the charterer's own neglect.

© ABE

Contract Law 3: Performance and Discharge

169

Failure of Performance
In the event that one party fails to perform, whether wholly or partially, this may entitle the other to treat the contract as discharged. Whether or not he/she can depends on the extent and importance of the failure. Once again, the question is: "Did the failure to perform amount to a breach of a condition or a warranty?" This is the classic view but, nowadays, courts often try to escape from the rigid definition of "condition" or "warranty", and they seek to equate the term to the commercial reality or importance of the breach with regard to the commercial intentions of the parties at the time they made their bargain. In Hong Kong Fir Shipping Co. Ltd v. Kawasaki Kisen Kaisha Ltd (1962), a ship on charter had a succession of engine breakdowns. The charterers claimed that it was an obligation of the owners to provide a seaworthy vessel (i.e. a condition). By reason of the breakdowns, she was not seaworthy; therefore, they were entitled to treat the contract as discharged. HELD: Regard must be had to the consequences of the breach. These were not sufficient to frustrate the commercial purpose of the contract. Hence, the charterers could not refuse further performance and the contract was not discharged (but they were, of course, entitled to damages).

D. DISCHARGE BY FRUSTRATION
Introduction
So far, we have talked about contracts being discharged by agreement and by breach, in other words, as a result of some act or neglect on the part of one or both parties. The last category in which a contract can be discharged arises by operation of law and not by any volition of either party. It is called "frustration". If some event occurs which is not the fault of either party and which could not reasonably have been foreseen, which so alters the whole character of the bargain as to make it a totally different thing from that intended, the contract may be discharged by frustration. It is essential to appreciate that the frustrating event must be something extraneous to the contract and that it must be such as to frustrate the commercial purpose of the contract. It is not up to the parties to agree on whether or not an event, when it occurs, has frustrated the contract. It is strictly a question of law to decide if that event did serve to frustrate. They can, of course, carry on with their bargain, on the same or altered terms, but that has the effect of making a fresh contract after the old one has been discharged by operation of law. This was not always the case and the concept of frustration is relatively new. In Paradine v. Jane (1646), a man was ejected from his leased farm by an alien army and forcibly prevented from making the profits out of which the rent could be paid. His landlord sued for the rent. HELD: He must still pay the rent. However, by 1863, the situation had changed and a less harsh view prevailed. In Taylor v. Caldwell (1863), the parties agreed that Caldwell should hire a music hall on four specified nights for concerts. After the contract was made, but before the first night, the hall was burnt down. HELD: Caldwell was not liable to damages. A term must be implied into the contract that the parties would be excused if performance became impossible, without the fault of the contractor, through the destruction of the subject matter.

© ABE

170

Contract Law 3: Performance and Discharge

Shortly afterwards, this concept of destruction of the subject matter was extended to the frustration of the adventure. In Jackson v. Union Marine Insurance Co. (1874), the contract was for a ship to proceed from Liverpool to Newport (Gwent) to load a cargo for shipment to San Francisco. Just outside Liverpool, the ship ran aground, and it took nearly eight months to refloat and repair her. HELD: The contract ended with the stranding.

Test of Frustration
Various tests have been put forward for deciding when a contract is frustrated. Probably the most helpful is that given by the House of Lords in Davis Contractors Ltd v. Fareham UDC (1956). Frustration occurs whenever the law recognises that, without default of either party, a contractual obligation has become incapable of being performed, because the circumstances in which performance is called for would render it a thing radically different from that which was undertaken by the contract. "It was not this that I promised to do. There must be such a change in the significance of the obligation that the thing undertaken would, if performed, be a different thing from that contracted for."

Illustrations of Frustration
Frustration commonly occurs as a result of war – but by no means necessarily. Typical events are:      Destruction by fire of the subject-matter Stranding or sinking of ships Requisition of the subject-matter by the government Seizure of a ship by a foreign government Death or some incapacity, such as illness, which is sufficiently severe that personal performance is impossible.

In Robinson v. Davison (1871), a pianist contracted to give a concert on a certain day but was prevented by illness. It was held that personal performance was at the root of the contract and, since this became impossible, the contract was discharged. You should note that, in cases other than those which require personal performance, death or illness does not excuse performance under the contract. In the event of death, the deceased's personal representative must assume the liabilities under the contract. Furthermore, some circumstances arising may excuse part of a contract being performed, without frustrating the whole. In Sainsbury (HR and S) Ltd v. Street (1972), a contract was made for the sale of 275 tons of barley from a certain farm. Through no fault of the farmer, the crop yielded 140 tons. The seller claimed to be excused from delivering any of it. HELD: The contract was not frustrated. A term would be implied that the seller was bound, if the purchaser so required, to deliver as much as was grown (i.e. 140 tons). Various classes of frustrating events can be distinguished: (a) Cancellation of an expected event These are the so-called "coronation cases", which all hinge on the same frustrating event. In 1902, just days before his coronation, King Edward VII had an operation for appendicitis. The coronation was postponed.

© ABE

Contract Law 3: Performance and Discharge

171

Contracts the sole purpose of which was directly connected with the event were, therefore, commercially frustrated. In Krell v. Henry (1903), Krell agreed to hire rooms in his Pall Mall flat to Henry, for the day of the coronation. The rooms overlooked the route. Krell sued for the balance of hire. HELD: Henry was not liable. The viewing of the procession was the sole basis of the contract, which was, therefore, frustrated. The same result was arrived at on similar facts in Chandler v. Webster (1904). However, the situation was different in Herne Bay Steamboat Co. v. Hutton (1903). In this case, Hutton contracted to hire Herne Bay's steamship to take passengers to view the Naval Review at Spithead and for a day's cruise around the fleet. HELD: The contract was not frustrated. Although the Naval Review was cancelled, the fleet was still at anchor in Spithead, and passengers could still cruise around it. (b) Subsequent legal changes or illegality If a contract is made on the basis that the performance of it is lawful, and legal changes occur afterwards, making performance illegal, then this will, normally, serve to frustrate the contract. In Metropolitan Water Board v. Dick, Kerr & Co. Ltd (1918), the company contracted with the Water Board in July 1914 to construct a reservoir and to complete within six years. In August, war broke out and in 1916, under statutory authority, the company was compelled to cease work on the reservoir. HELD: The contract was frustrated. On the other hand, a supervening legal prohibition which, to a substantial extent, destroyed the commercial purpose of a lease of a warehouse was held not to frustrate the lease. In National Carriers Ltd v. Panalpina Ltd (1981), National Carriers leased a warehouse for ten years. Five years later, in 1979, the local authority closed the only street giving access to the warehouse. It was not reopened until 1981. National Carriers claimed that the lease was frustrated from the date of closure. HELD: The doctrine of frustration could apply to a lease but, in this case, the disruption caused was not sufficient to frustrate the contract. There were still three years to run out of a balance of five years from the onset of the disrupting event. (c) Outbreak of war Outbreak of war can have two effects which may serve to frustrate a contract. In the first place, it renders all dealings or transactions with the enemy illegal. Contracts made but not yet fully performed are, therefore, discharged by frustration. This applies, even though the contract had envisaged the possibility and provided for its suspension during the course of hostilities. In the second place, outbreak of war can frustrate the commercial purpose of a contract, even though the parties to it do not become alien enemies. For example, in Bank Line Ltd v. Arthur Capel & Co. (1919), it was agreed that a ship should be chartered for 12 months. Before delivery, she was requisitioned by the government, and after four months she was released. HELD: The commercial purpose of the charter agreement was frustrated.

© ABE

172

Contract Law 3: Performance and Discharge

However, this will not always apply. In F A Tamplin Steamship Co. Ltd v. Anglo American Petroleum Products Co. Ltd (1916), a ship was chartered for five years, to run between specified ports. While the charter still had three years to run, the ship was requisitioned for use as a troop ship. The charterers were willing to continue to pay the freight, but the owners, hoping to obtain higher compensation from the government, claimed that the contract was frustrated. HELD: The interruption was not sufficient to frustrate the contract. This decision was by a bare majority of the House of Lords, and it is possible that the fact that it was the owners who wished to take advantage of the situation for their own profit may have affected the result. The fact that the contract will be made more onerous, or more expensive, will not, in itself, serve to frustrate it, even though, as in the case of outbreak of war, this is a potentially frustrating event. In Tsakiroglou & Co. Ltd v. Noblee Thorl GmBH (1962), sellers agreed to sell and ship ground-nuts from Port Sudan to Europe. Before shipment, the Suez Canal was closed to navigation as a result of war. It would have been possible to ship them via the Cape of Good Hope, and this would have been far more costly, and have taken three times as long. HELD: The extra time and cost of shipment were not sufficiently fundamental to frustrate the contract. Had the commodity been perishable, the result would probably have been different. In a more recent case, it was held that there was no rule or irrefutable presumption that a declaration of war prevented the performance of – and, therefore, discharged – a contract on which the war had a direct bearing. Unless the declaration of war made the contract illegal, it was the circumstances of the individual contract and the extent to which it was affected that was the governing factor – not the declaration of war per se. This decision was made as a result of a ship being bottled up in the Shatt al Arab waterway by the Iraq/Iran war: Finelvet AG v. Vinava Shipping Co. Ltd – "The Chrysalis" (1983).

Self-induced Frustration
The essence of the doctrine of frustration is that the event must not have arisen by the fault of either party. If, therefore, it is induced by the act or neglect of one of them, he/she cannot rely on this to escape from his/her obligations. In Maritime National Fish Co. Ltd v. Ocean Trawlers Ltd (1935), a trawler, the "St Cuthbert", was chartered. She was fitted with an otter trawl, and both parties were aware that it was illegal under the Canadian Fisheries Act to use an otter trawl without a licence. The charterers used five trawlers, including the "St Cuthbert", and they applied for five licences. Only three were granted, and the charterers chose not to apply one of these to the St Cuthbert. They claimed that the charter contract was frustrated. HELD: They could not rely on this, as it was their own voluntary election that prevented the "St Cuthbert" being used. It is not yet fully settled as to which act or neglect is necessary to debar a person from claiming frustration. For instance, a sentence of imprisonment on an employee is not considered as "self-induced" so as to prevent the contract of employment from being frustrated: Hare v. Murphy Bros Ltd (1974).

© ABE

Contract Law 3: Performance and Discharge

173

Legal Consequences of Frustration
At common law, if a contract is frustrated, it is not thereby made void ab initio. All that frustration does is forthwith to release both parties from any further performance. Originally, the loss lay where it fell. For instance, in one of the "coronation cases" we referred to previously, Chandler v. Webster (1904), the deposit paid for the rooms was irrecoverable. It was only the balance of rent due that did not have to be paid. The harshness of this rule was later appreciated and partially corrected by the House of Lords in Fibrosa Spolka Akcyjma v. Fairbairn Lawson Combe Barbour Ltd (1943). In July 1939, a contract was made to deliver machinery to Poland. A deposit of £1,000 was paid. In September, England went to war with Germany and in the same month Poland was occupied by Germany. The contract was frustrated. HELD: The advance consideration of £1,000 must be repaid as the consideration had wholly failed. The repayment claim did not arise out of the contract, but under the equitable rule of "money had and received". Chandler v. Webster was overruled. However, although the deposit was repayable, the manufacturers could recover nothing for the work they had done and expense incurred up to the date of frustration. The result was that Parliament stepped in with the Law Reform (Frustrated Contracts) Act 1943. This Act applies to any contract which has been frustrated or rendered impossible of performance. It does not specify what constitutes frustration; it merely alters the legal consequences, which are that :  All sums paid before the date the contract is discharged become repayable and all future sums cease to be payable. However, the court has power to apportion such payments between the parties if it is just and equitable so to do.  If any party has received a valuable benefit, other than the receipt of money, before the date of discharge, then the court can order him/her to pay such amount as may be just and equitable.

So, what the Act does is to ensure, as far as possible, that the loss from a frustrated contract falls to both parties fairly. In Gamerco SA v. ICM/Fair Warning (Agency) Ltd (1995), the claimants, pop concert promoters, agreed to promote a concert to be performed by the defendant pop group at a stadium in Madrid. However, the stadium was found to be unsafe and the authorities banned its use. The permit issued to the claimants to hold the concert was revoked, a suitable alternative venue could not be found and the concert was cancelled. The claimants sought to recover an advance payment made to the defendants. By way of counter claim, the defendants sought damages for breach of contract by the claimants in failing to secure the permit. HELD: It was an implied term of the contract that the claimants would use all reasonable endeavours to obtain a permit for the concert. The contract was frustrated, not because the permit had been revoked, but because the stadium, the proposed venue, had been found to be unsafe and its use banned. The 1943 Act, Section 1, entitled the claimants to recover the advance payment made to the defendants and, in all the circumstances of the case, the court's discretion would be exercised in favour of the claimants. Accordingly, the claimants' claim would succeed and the counter-claim would be dismissed. The Act does, however, exclude charter-parties, except for time-charter-parties and charterparties by way of demise, and carriage of goods by sea – the reason being that maritime practice has evolved adequate safeguards through the marine insurance industry.

© ABE

174

Contract Law 3: Performance and Discharge

Force Majeure
You may well have heard the term "force majeure" used. Strictly, it is a continental concept which is unknown to the law of England. It is akin to, but perhaps less draconian than, the English doctrine of frustration. However, the term is recognised and commonly applied, especially in building and engineering contracts. The parties agree in their contract to have what is known as a "force majeure" clause. This means they agree that, in the event of either or both of certain specified events occurring, and any circumstances beyond the control of either party arising, they will act in a specified manner. It is, therefore, a contractual term and should one of the frustrating events occur, the remedy is agreed upon beforehand. The question, therefore, of frustration arising by operation of law does not occur. Provided the event is covered by the force majeure clause, the agreed remedy is enforceable. If the event is, however, outside the terms of the force majeure clause, the doctrine of frustration can come into play in the normal way.

E. REMEDIES FOR BREACH OF CONTRACT
Damages – General
The principal remedy for breach of contract is an award of damages. Hence, an appreciation of the nature and purposes of damages is important. The essential point is that damages are compensation to the injured party for the loss he/she has suffered as a result of the other party's breach of contract, the object being to place him/her in the same position as he/she would have been in had the contract been properly performed. Damages are not a punishment, nor are they a means of intimidating a party into properly performing by fear of a penalty. In Malik and Others v. Bank of Credit and Commerce International SA (1995), the claimants had held senior positions as employees of the defendant bank at its various branches. They were made redundant when the bank was forced into liquidation following discovery of large-scale fraud at director level within the bank and were unable to secure work within the financial services industry. They accordingly sought compensation for breach of an implied term within their contracts of employment that their employers would so conduct their business that no stigma would become attached to its employees. HELD: The claimants' claim related to harm done to their existing reputations and could not succeed. The court stated, "... damages are not recoverable in contract for damage to or loss of an existing reputation" because such damage or loss is not attributable to a failure to provide consideration for an aspect of the employment contract. Such cases where consideration had failed had been concerned with the nature of the contract itself, for example an apprenticeship contract when the apprentice had been dismissed for the absence of training and instruction which his employer was obliged to provide, or the loss of an opportunity to enhance a reputation in a theatrical artiste's contract because of failure to provide him with prestigious parts or roles: Withers v. General Theatre Corp. Ltd (1993). A duty to mitigate or minimise the loss is often presumed by the courts, although the burden of proving that the claimant has not done so is placed on the defendant. The emphasis, however, is on what is "reasonable" in the circumstances. If, for example, a claimant, in reasonably attempting to mitigate her loss, actually makes it worse, she will not be penalised for her actions. She will be able to recover her actual loss, even though she herself has increased it.

© ABE

Contract Law 3: Performance and Discharge

175

In Pilkington v. Wood (1953), a solicitor wrongfully advised Pilkington that the title to his new house was good (in effect this meant there were no legal difficulties in establishing ownership). The solicitor argued that Pilkington should have mitigated his loss by suing the seller for conveying a defective title. HELD: It was unreasonable to expect Pilkington to embark on a lengthy and complicated action in order to protect his solicitor from the consequences of his own carelessness. In Abrahams v. Performing Rights Society (1995), the claimant was employed on a fiveyear contract, under which he was entitled to two years' notice of termination of employment, or an equivalent payment in lieu of notice if his employment was terminated at the end of the five-year period. After the five years had expired, the parties were unable to agree on the terms of a new contract, but it was agreed that the claimant was to remain in his post for a further two years "subject to the same terms as the previous contract". When the claimant was dismissed seven months later, he claimed payment from the defendant for salary for the remainder of the two-year period. The defendant contended that the claimant was obliged to mitigate his losses. HELD: The provisions of the old contract, relating to notice and payment in lieu, applied to the two-year contract of employment. As the defendant had elected to terminate the contract before the end of the two-year period, it was bound to pay the claimant the amount due in lieu of notice for the remainder of that period. The claimant had a contractual entitlement to this payment and there was no duty on him to mitigate his losses by seeking employment elsewhere for the remainder of the period. See also: Reichman v. Beveridge (2007). There are various terms used to describe the different categories of damages. (a) General and special damages Loss has to be proved in order that damages may be assessed. However, it is not always possible to calculate precisely the exact amount of the loss. How do you exactly quantify loss resulting from pain and suffering"? You cannot – so, the law presumes that loss results from the infringement of certain legal rights or duties. The fact that loss has been sustained must be proved – but not the precise amount. These are called "general" damages. It is the job of the court to put a monetary figure to them. "Special" damages are those which can be precisely calculated. (b) Nominal damages These are awarded where a claimant's legal rights have been infringed, and he/she is entitled to damages, but he/she has, in fact, suffered no actual loss. They are, often, really only to establish the fact that a right has been infringed and they can be as little as 1p. (c) Liquidated and unliquidated damages If the parties have made no mention of the subject in their contract, then, in the event of any breach, the injured party must prove his/her loss. The resulting award is called "unliquidated" damages. However, for a variety of reasons, the parties may decide beforehand that, in the event of a specific breach, the loss suffered will be assumed to be a certain figure, or in accordance with a certain scale. It may be difficult or expensive and time consuming to have to calculate the exact figure, so the parties make a preestimate of the likely loss and insert this in the contract as the sum payable if that breach does occur. These are called "liquidated" damages. If the particular breach does occur, the agreed sum becomes due, quite regardless of the actual loss sustained or indeed if any loss at all. The distinction between liquidated damages and penalties (or punishments) can be fine and we shall discuss it later in this chapter.

© ABE

176

Contract Law 3: Performance and Discharge

Damages – Causation
It is essential that the loss suffered must have been caused by the breach of contract. There must be a direct chain of causation between the breach of contract and the loss suffered. If something or someone intervenes to break this chain, it cannot be said that the breach caused the loss.  The intervention can be by a third party. In Weld-Blundell v. Stephens (1920), P wrote a libellous letter which, in breach of contract, D left lying where a third party could read it. The third party was likely to – and, in fact, did – pass on the contents to the person libelled in the letter. The latter recovered damages from P. P then sued D for breach of contract. HELD: P could recover only nominal damages, and not the amount of the libel award and costs. The act of the third party broke the chain of causation and was a new and independent cause.  If an event occurs which could not reasonably have been foreseen, this may break the chain of causation. In Monarch Steamship Co. Ltd v. Karlshamns Oljefabriker A/B (1949), a ship was chartered, in 1939, to carry a cargo from Manchuria to Sweden. It was a contractual term that the ship should be seaworthy. She should have reached Sweden in July. Owing to breach of the condition of seaworthiness, she was delayed until September, by which time war between England and Germany had broken out. By order of the British Admiralty, she was unloaded at Glasgow. A claim was made for the cost of shipping the cargo in a neutral vessel from Glasgow to Sweden. HELD: Reasonable businessmen, knowing of the possibility of war, would have foreseen that delay would lead to diversion. Hence, the breach of contract was the direct cause of the loss, which was, therefore, recoverable. Had the same situation arisen off the Falkland Islands in 1982, the result would, no doubt, have been different. Reasonable people could, probably, not have foreseen the Argentinian invasion. Damages will not be awarded if a claimant's loss is regarded as too remote, for which, see: Transfield Shipping Inc v. Mercator Shipping Inc (2008). Only damages which were in the contemplation of the parties at the time of entering into the contract are recoverable. The parties must have considered the possibility of those damages arising if they were in breach of contract. Damages will not be awarded for something which was unlikely to happen, i.e. something which is too remote a consequence of the breach will not be compensated. The principles to be applied in determining whether damage is too remote were set out by the court in Hadley v. Baxendale (1854): the plaintiff may recover damages:   For loss arising naturally, in the “usual course of things”, as a probable result of the breach (known as “normal loss”) For loss which was in the “reasonable contemplation” of both parties at the time the contract was made, as a probable result of the breach (known as “abnormal loss”).

As a consequence of the first limb of the rule in Hadley v. Baxendale, the party in breach is deemed to expect the normal consequences of the breach, whether they actually expected them or not, i.e. it does not matter that they did not actually think of the consequences, if those consequences were the natural outcome of their breach. Normal losses are those losses which can be recovered without recourse to what either party thought would happen if the contract was breached:

© ABE

Contract Law 3: Performance and Discharge

177

In Hadley v. Baxendale, a firm of carriers took a mill shaft for repair. Because they were late in returning it, the mill owners suffered losses. The court held that the carriers could not have known that it was the only mill shaft and, therefore, would not have known that losses would result from the late return of the mill shaft. The phrase used by the courts is "in the contemplation of the parties". Therefore, only losses which are in the usual course of things can normally be recovered, not anything unusual. However, unusual losses will be recoverable if the other party has notice of them at the time of entering into the contract, i.e. if in the present case Hadley had, at the time of making the contract with Baxendale, drawn his attention to the fact that he did not have a spare mill shaft and that, if Baxendale was delayed in returning Hadley's only mill shaft from the repairers in Gloucester, it would result in his mill being out of action until such time as Baxendale returned with the repaired mill shaft. In Victoria Laundry (Windsor) Ltd v Newman Industries Ltd (1949), the plaintiffs, a laundry company, ordered a large boiler from the defendants, on whose premises it was currently installed. The defendants' contractors damaged it while it was being dismantled and delivery was delayed by about five months while the boiler was repaired. The plaintiffs claimed for their lost profits, arising from the expected increase in business following their increased capacity (the demand for laundry services at that time being particularly heavy) and from a lucrative dyeing contract they would have been able to bid for. Streatfield J said those claims must fail because they had not drawn the special purpose of acquiring the boiler (i.e. to expand their business) to the defendants' attention, but the Court of Appeal said it was enough that the defendants knew the plaintiffs were in the laundry business and knew in general terms the state of the market. The plaintiffs were entitled to recover the lost profits from the expected general increase in trade, but not those from the dyeing contract, which would not have been in the reasonable contemplation of the other party. Under the second limb of the rule in Hadley v. Baxendale, the party in breach can only be held liable for abnormal consequences where they have actual knowledge that the abnormal consequences might follow: The question that has to be asked in such cases is “what would a reasonable man foresee as a result of a breach of this particular contract”: Victoria Laundry (Windsor) Ltd v. Newman Industries Ltd (1949). In The Heron 11 (1967), the respondents had chartered a ship from the appellants to carry a cargo of sugar to Basrah. The ship made various unauthorised deviations during the voyage, and consequently arrived about nine days later than it should have done. During those nine days, the price of sugar had dropped significantly and the respondents sued for the difference. The House of Lords dismissed the appellants' appeal from the Court of Appeal and upheld judgement in favour of the respondents. It is not enough, said Lord Reid, that a consequence may have been foreseeable as "a serious possibility" or "liable to result" (which is the rule in tort); the consequence must have been "quite likely" or at least "not unlikely". The duty of mitigation The innocent party in a breach of contract case has a duty to take all reasonable steps to reduce their losses. However, there is no duty to take extraordinary steps to mitigate. If you do not mitigate, the court will reduce your damages by the amount you could have mitigated. Another way of expressing this is to say that the plaintiff may not recover damages for losses which could have been avoided. Mitigation can be divided into three rules:    The plaintiff cannot recover for loss because of the defendant's breach of contract where he/she could have avoided it by taking reasonable steps The plaintiff cannot recover for any loss he has actually avoided, even though he/she took more steps to mitigate than were actually necessary The plaintiff may recover loss incurred in attempting to mitigate, even though he/she did not succeed.

© ABE

178

Contract Law 3: Performance and Discharge

The plaintiff cannot recover for loss because of the defendant's breach of contract where he/she could have avoided it by taking reasonable steps to minimise their loss sustained as a natural consequence of the defendant's breach: Brace v. Calder (1895). In Payzu Ltd v Saunders (1919), after the plaintiff paid an instalment on goods late, the defendant offered to continue deliveries only if the plaintiff paid cash on delivery in future. Payzu refused, bought the goods at a higher price on the market and then took Saunders to court for the difference in price. The court held that the plaintiff had sustained an unnecessary loss, which he could have avoided by accepting the defendant's offer. Payzu had the cash and could have paid for the goods and still obtained them relatively cheaply from the defendant. No damages were awarded.

Damages – Calculation
Two different measures can be used by the courts to calculate damages awards in breach of contract cases. The successful plaintiff has the right to choose which measure he would like the court to apply in calculating his unliquidated damages award. (a) The expectation loss measure If you did not expect to make a profit from the contract, this measure will not award you damages, as in order to claim contract damages, the plaintiff must have suffered a loss. Expectation loss compensates the innocent party for what he expected to gain from the contract. Obviously this will normally be loss of profit, especially in commercial contracts. However, it can be the cost of substitute performance. For example, if what you expected to gain from the contract was not a business profit but, for example, a properly built swimming pool, then expectation loss would be the cost of building the swimming pool or of remedying the defects in the swimming pool: Ruxley v Forsyth. This is called cost of cure, which may be very different from the actual loss of value suffered because of the breach of contract. If the cost of cure is out of all proportion to the benefit obtained, it will not normally be awarded. Generally speaking, if the plaintiff has contracted for a particular kind of benefit, he may be awarded the cost of cure for that particular benefit, even though it is more expensive than is absolutely necessary, as the rule is that the plaintiff is allowed to insist on his or her full rights under the contract: In Ruxley Electronics and Construction Ltd v. Forsyth (1995), the defendant contracted with the claimant company for the construction by the claimant company of a swimming pool in the defendant's garden, specifying a maximum depth for the pool of 7' 6". After completion of the work, it was discovered that the maximum depth was only 6' 9" and only 6' where swimmers would normally dive in. The defendant refused to pay the full contract price and counter-claimed against the claimant company for damages for breach of contract amounting to the cost of a new pool. HELD: Although there had been a breach of contract, the shortfall in depth had not decreased the pool's value as a swimming pool and an entitlement of £2,500 for loss of pleasure and amenity would be awarded to the defendant. The court stated: "Damages are designed to compensate for an established loss and not to provide a gratuitous benefit to the aggrieved party, from which it follows that the reasonableness of an award of damages is to be linked directly to the loss sustained .... The defendant has acquired a perfectly serviceable swimming pool, albeit one lacking the specified depth .... His loss is thus not the lack of a usable pool with consequent need to construct a new one. Indeed were he to receive the cost of building a new one and retain the existing one, he would have recovered no compensation for loss but a very substantial gratuitous benefit, something which damages are not intended to provide".

© ABE

Contract Law 3: Performance and Discharge

179

So, the position is that, in general, the full amount can be recovered of all types of damage that were reasonably foreseeable. This is so, even if the amount of damages under a foreseeable type is far more than could reasonably have been anticipated. (b) The reliance loss measure Sometimes reliance loss is a better measure of the loss suffered than expectation loss, because it can be very difficult to establish the exact amount of expectation loss. This commonly occurs where the potential profit, which has been lost, was speculative and is therefore very difficult to quantify. If someone has acted in reliance on the contract, it is called reliance loss if they have suffered a loss because they relied on the contract. Usually they have spent money preparing their side of the bargain or they have lost the opportunity of entering into another contract because of the existing agreement. For example, a printer has agreed to do a print run, and there is a breach of contract by the other party, which means that the printer has lost the opportunity to print somebody else's printing job. This can be claimed as contract damages. Reliance losses can be claimed where the plaintiff has incurred substantial expenditure in reliance upon the contract. Damages may be recovered under this head even for expenditure incurred before the time the contract came into existence. In Anglia Television v. Reed (1972), the plaintiffs, a television company, incurred various expenses in preparing a TV play and contracted with Oliver Reed to play the leading role. The defendant then repudiated the contract and the plaintiffs were unable to find a suitable substitute and so cancelled the play. The Court of Appeal said the plaintiffs could recover all their prior wasted costs because it must have been within the defendant's contemplation that there would have been such costs and that repudiation might lead to abandonment. These were reliance damages; any calculation of expectation damages would, of course, have been highly speculative. Lord Denning MR made it clear, however, that an injured party cannot have both expectation and reliance damages – that would compensate him twice for the same loss.

Liquidated Damages or Penalties
As we have seen, liquidated damages are permissible; penalties are not. Liquidated damages can be defined as "a genuine pre-estimate of the damage likely to occur in the event of breach of contract or a specific breach of contract". The essential thing is that they must be a genuine pre-estimate. These will be enforced. If, on the other hand, the agreed sum is, in fact, a penalty to terrorise the other party into performing, then it is unenforceable. This does not mean that the guilty party gets off scotfree. All it means is that the so-called "liquidated damages clause" will be struck out, and the innocent party has to prove his/her actual loss. This could well be more than the supposed liquidated damages or penalty. The distinction between liquidated damages and penalties was explained in Dunlop Pneumatic Tyre Co. Ltd v. New Garage & Motor Ltd (1915). Here, a contract between the parties required the defendants to observe Dunlop's price list for certain products. The contract stated that, for every sale other than at a listed price, the defendants would be required to pay £5 by way of liquidated damages and not as a penalty. HELD: The sum was liquidated damages and so was recoverable. The House of Lords, in this case, made a number of general points which help to distinguish the two categories.   The terms used by the parties are not conclusive, since the distinction is a matter of law. It will be a penalty if the breach consists of not paying a sum of money and the sum stipulated is far greater than the sum which ought to have been paid.

© ABE

180

Contract Law 3: Performance and Discharge

A sum will be treated as a penalty if it is "extravagant and unconscionable in amount" in comparison with the greatest loss that could conceivably be proved to have followed from the breach. There is a presumption that it is a penalty when a single lump sum is payable by way of compensation on the occurrence of one or more of several events, some of which may occasion serious and others trifling damage. It is no obstacle to the sum stipulated being a genuine pre-estimate of the damage, that the consequences of the breach are such as to make precise pre-estimation almost an impossibility.

On the other hand: 

In relation to the above five principles stated by the House of Lords in Dunlop Pneumatic Tyre Co. Ltd v. New Garage & Motor Ltd (1915), the following recent case should be noted. In Nutting v. Baldwin (1995), the defendant was a member of an association composed of Lloyd's names from certain syndicates, who had formed the association in order to bring actions against their managing agents for (inter alia) alleged negligent advice. The association resolved to levy additional subscriptions under powers contained in the association agreement, but the defendant did not pay them, was declared a defaulting member and, accordingly, disentitled himself from sharing in any damages awarded to the association. He applied to the court for a declaration that the power to declare him a defaulting member contained in the association agreement was a contractual penalty and therefore unenforceable. HELD: It was an essential part of the arrangement between the association's members that, if a member ceased to contribute his share of the cost of bringing the legal actions against the managing agents, he ran the risk of being excluded from his share of the benefit of the arrangement and, therefore, the provision did not constitute a penalty. To allow a member, who had not fully undertaken his share of the risk by paying, properly, all the agreed subscriptions on time, to come in after the litigation had been successfully concluded, so that there was no longer any further risk of loss, and still share in the fruits of the litigation, would undermine one of the fundamental objectives of the constitution of the association. See also: Duffen v. FRA BO SpA (1998).

Specific Performance and Injunction
These two orders are equitable remedies which can be sought if damages would not provide an adequate remedy. "Specific performance" is an order by the court compelling one party to perform the contract in accordance with its terms. It is a positive remedy. An injunction is negative. It commands a party not to commit a threatened breach of contract. Both of these are discretionary, whereas damages are an absolute right. Neither will be granted if the claimant is him-/herself at fault for the breach of contract, or if it would be unfair to grant them. See: Co-operative Insurance Ltd v. Arygll Stores (Holdings) Ltd (1997). Nor will they be granted if damages would prove an adequate remedy, or if the effect of such an order would be disproportionate to the damage caused by a breach of the contract. In Jaggard v. Sawyer (1995), the defendant's house was at the end of a private cul-de-sac, and, having purchased some land behind his house, he applied for, and was granted, planning permission for the construction of a house on the land so purchased. However, access to this new house could only be gained by use of the private estate road and over the garden of the defendant's house. The defendant failed to secure the consent of the other estate property owners for use of the private road for access purposes, and the development breached the covenants which bound

© ABE

Contract Law 3: Performance and Discharge

181

all the property owners on the estate without such consent. The defendant nonetheless proceeded with the construction of the new house, and after the work had advanced to a substantial extent the claimant, who was one of the other estate property owners, instituted proceedings for an injunction restraining the defendant from continuing with the work to complete the new house. HELD: An injunction is an equitable remedy granted in the discretion of the court and if the claimant delays instituting proceedings until it is too late, an injunction will be refused. This was the case here, because the construction of the new house had reached an advanced stage before the applicant took steps to lodge proceedings for an injunction. His/her only remedy was in damages for the failure by the defendant to secure release of the covenants to enable the owner of the new house to use the private estate road for access purposes. He/she was awarded £694 damages for use by the new house owner of the private road immediately in front of his/her property. The courts are particularly wary of enforcing contracts for personal services. The fear seems to be that to allow such contracts to be enforced, usually by an injunction, could give an unfair advantage to the claimant. In Warner Bros Pictures Inc. v. Nelson (1937), the court overcame this problem by deciding that granting an injunction to the applicants would have the effect of encouraging the defendant, a film actress, to perform her contractual obligation to work only for the claimants. Thus, the effect of the injunction was considered not to be to compel her to work for the claimants alone (though it would certainly have been strong encouragement). She could easily obtain employment in other areas of work where the interests of the claimants would not be affected. By contrast, in Page One Records v. Britton (1968), the court refused to enforce a term in a contract whereby the defendant would employ only the claimants as his manager. The court took the view that, if the term were to be enforced, it would place the defendant in the difficult position of either employing the claimants or remaining workless. It is probable that the second case represents a more realistic approach to such a situation and it seems that the courts are more likely to adopt the second approach as the norm. In Warren v. Mendy (1989), it was held that a boxer could not be obliged to comply with a requirement in his contract to employ Warren as his manager for three years. The court considered that the breakdown in trust between the parties meant that it was unrealistic to seek to enforce it, not least because the contract involved the maintenance of skill and talent. A special type of injunction which has developed substantially over the last decade or so is the Mareva injunction (now known as a Freeze Order), which is granted to prevent defendants in proceedings before the High Court from removing assets out of the jurisdiction with the aim of avoiding or frustrating the enforcement of any judgment against them. In "The Mareva" case (1980), the Court of Appeal upheld an injunction to restrain the defendants from removing or disposing out of the jurisdiction money standing to the credit of the defendants in a London bank. The claimants were ship owners and the defendants were charterers under a voyage charter. The defendants had received payments for the freight in that bank account, but they had failed to pay the hire charges due to the claimants. (The term Mareva injunction derives from the name of the ship in this case.) Such an injunction will normally be granted where it seems likely that the claimant will obtain judgment against the defendant, but there is good reason to believe that assets of the defendant will be disposed of or dealt with in such a way as to prevent enforcement of the judgment. However, a Mareva injunction will not be granted if its effect would be some considerable interference with the rights of third parties. Any person who has notice or knowledge of a Mareva injunction must do all that is reasonable to safeguard the assets in question. If he/she aids and abets the defendant to dispose of them, he/she will be liable for

© ABE

182

Contract Law 3: Performance and Discharge

contempt of court and punished accordingly. For example, if a bank is given notice of the injunction, it may act immediately and automatically to rescind any instructions given by the bank's customer concerning his/her account. This type of injunction may be granted in regard to claims for debts or other liquidated sums. It may be granted in any commercial action and in actions for damages for breach of contract.

Anton Piller Order (Search Order)
Another valuable addition to contractual remedies which has evolved in recent times is the Anton Piller order (now known as a Search Order). Like the Mareva injunction, it is a preemptive remedy designed to prevent a defendant from disposing of or dealing with material, property or assets in such a way as to frustrate enforcement of a judgment. A court has an inherent power to make an order requiring the defendant to permit access to his/her premises with the object of searching for illicit materials and documents. The order also has the effect of permitting such property to be taken away, detained and kept in safe custody until the full trial of the action. Such an order was made originally in the case of Anton Piller KG v. Manufacturing Processes Ltd (1976). A Search Order order may be granted on an ex parte application to the court (i.e. in the defendant's absence). This is permissible because surprise is essential – if the defendant were to have prior knowledge of the application, there would be a risk that he/she would destroy or hide the property in question. The court may grant a Search Order where the property comprises articles which infringe the claimant's copyright, trade mark or other rights. It will seek to safeguard the defendant's rights by ordering that the items in question be placed immediately in the custody of a responsible person on behalf of the claimant. An order may also be made for the preservation of a document amounting to best possible evidence where there is a real danger of its being destroyed or hidden by the defendant.

Limitation of Action
It is considered wrong that a person should have the liability hanging over his/her head indefinitely. Consequently, the Limitation Act 1980 provides that no action may be taken to enforce a contractual claim more than six years after the cause of action arose, in the case of simple contracts, or 12 years in the case of contracts under seal. In Aiken and Others v. Stewart Wrightson Members' Agency Ltd (1995), the claimants were all Lloyd's names and sought damages for breach of contract from the defendants, who were their agents at Lloyd's. Some of the contracts in question had been made under seal. The question before the court was whether the claimants, who were parties to those contracts, were entitled to the benefit of the 12-year limitation period under Section 8(1) of the Limitation Act 1980, which states: "An action upon a specialty shall not be brought after the expiration of 12 years from the date on which the cause of action accrued." HELD: The claimants were entitled to the 12-year limitation period under the Act because an "action upon a specialty" included an action based on a contract under seal. It was not possible to contend that the contractual relationship between the parties was governed by the ability of the claimants to seek specific performance of the contracts, which is in the discretion of the court, as the defendants had sought to do.

© ABE

183

Chapter 8 Law of Agency 1: Agency Agreements and Agents
Contents
A. General Nature of Agency Definitions Other Types of Relationship Capacity Acts that May Be Done through or by an Agent

Page
185 185 185 186 187

B.

How Agency Arises By Express Agreement By Implication By Estoppel Agency of Necessity Formalities of Appointment

187 187 188 189 189 190

C.

Ratification What Can Be Ratified? Who Can Ratify an Act? Rules and Conditions of Ratification What Constitutes Ratification? Effect of Ratification

191 191 192 193 193 194

D.

Categories of Agents Factors and Brokers Estate Agents Auctioneers Bankers Other Examples Del Credere Agents

194 194 195 195 195 196 196

E.

Duties of Agents to their Principals Contractual Agents Gratuitous Agents Fiduciary Duties of all Agents Contracts between a Principal and a Third Party

197 197 199 200 203

(Continued over)

© ABE

184

Law of Agency 1: Agency Agreements and Agents

F.

Rights of Agents against Principals Payment Indemnity Lien Goods Bought in an Agent's Name

203 203 205 205 206

G.

Commercial Agents (Council Directive) Regulations 1993 Definition of a Commercial Agent Summary of the Regulations

206 207 207

© ABE

Law of Agency 1: Agency Agreements and Agents

185

A. GENERAL NATURE OF AGENCY
"He who does an act through another is deemed in law to do it himself." This is a maxim of the common law, and it is the basis of the law of agency. Subject to the terms of the Contracts (Rights of Third Parties) Act (1999), under the normal rule of privity of contract, if one person contracts with another, a third party can derive no benefit, nor incur any obligations, under that contract. However, if one person authorises another to do an act on his/her behalf, that other becomes the agent of the first. The act of the agent, then, under the maxim quoted above, becomes the act of the first person who "steps into the shoes" of the agent and becomes liable for the act (and able to enjoy its benefits) as if he/she himself had done it in the first place. The agent has no personal liability; he/she "drops out" of the transaction. In commercial matters, the relationship of agency usually arises as a result of a contract between two people, for one (the agent) to effect a contract on behalf of the other. However, this is by no means the only way in which the relationship can arise, nor is the effecting of a contract the only duty an agent can perform. The fundamental principle is that, by the agreement of both parties, the agent is enabled directly to affect the legal relations of another person. Except in the case of "agency of necessity", which we will consider later in this chapter, nobody can have an agency relationship forced upon him/her, nor can it arise other than by agreement (express or implied).

Definitions
There are a number of definitions which, even at this early stage, you should be clear about. We shall be discussing them in greater detail later but, in outline, the essential ones are as follows.  Principal The "principal" is the person who agrees, expressly or by implication, that another shall do an act for and on his/her behalf, and that he/she shall be legally bound by that act. (Note re spelling: it should be a principle to spell "principal" correctly!)  Agent The agent is the person who acts on behalf of his/her principal, and binds him/her in law.  Authority The authority of an agent is the act(s) and thing(s) which he/she is permitted or is authorised to do by his/her principal, and which will bind the principal. There are several different types of authority, some express, some implied, but in general (subject to exceptions), the principal will be bound by an act only if that act is within the authority of the agent to do on the principal's behalf.

Other Types of Relationship
There are certain basic relationships which arise out of a contract whereby one person commits an act (or several acts) for another, but which are not (or not wholly) agency relationships.  Master and Servant (this covers most employer/employee situations) This is not primarily a matter of agency. A servant is under the contract and direction of the master, and the master is vicariously liable for the acts of the servant. However, vicarious liability arises by virtue of the relationship, not by reason of the servant's

© ABE

186

Law of Agency 1: Agency Agreements and Agents

acting as an agent and the relevant liability is generally in tort, particularly negligence. If a servant makes a contract on behalf of his/her employer, then he/she does so as an agent for the employer. However, the liability of the employer is much wider than if it were a strictly agency relationship, and it extends to torts (e.g. negligence) committed by the servant in the course of his/her employment. There is inevitably an overlap between the two relationships, that of agency and that of master and servant, but essentially an employee acts by virtue of a contract of employment, and it is only when he/she has occasion to contract on behalf of his/her employer that he/she assumes the mantle of an agent for that matter only. Some employees cannot be said to be servants because they are not sufficiently under the control of their employers, but even most doctors working in hospitals are now regarded as "servants".  Independent contractor This is not an agency relationship. Again, the concept arises principally in negligence. An independent contractor carries out duties or work or services for another by virtue of a contract. However, the "employer" of an independent contractor is not liable for the acts of the contractor (except in rare instances). If the contractor makes a contract with a third party in connection with his/her employment, he/she is solely liable in respect of it. The "employer" is not liable either vicariously or under the law of agency.  Partnership By virtue of the Partnership Act 1890, Section 5: "Every partner is an agent of the firm and his other partners for the purpose of the business of the partnership." That is to say, a partner can bind the firm by an act done in the course of the business of the partnership. The "firm" is not a legal entity in England (unlike in some other jurisdictions), but each partner is jointly liable for all the debts of the partnership. Their liability for debts incurred by their other partners arises by virtue of the agency, not vicariously. However, the relationship of partners with each other extends far wider than that of principal and agent.

Capacity
(a) To act as principal Any person who is capable of acting in his/her own name is capable of so acting through the agency of another. For instance, a minor can be a principal – but only in respect of those matters which the law permits him/her to do so. As Lord Denning MR said in G(A) v. G(T) (1970): "Whenever a minor can lawfully do an act on his own behalf, so as to bind himself, he can instead appoint an agent to do it for him." A corporation can appoint an agent to do an act which is intra vires (within its powers permitted by its Memorandum of Association). Conversely, an appointment of an agent to do an ultra vires act does not bind the corporation, nor is it bound by any contract entered into by an agent which is ultra vires the corporation: Ashbury Railway Carriage Co. v. Riche (1875). Of course, in such circumstances, an innocent third party is not left without a remedy. Under the common law, any director who authorised such a contract would be personally liable. By virtue of the European Communities Act 1972, Section 9, the company may itself be bound notwithstanding the fact that the contract was ultra vires, if it was one entered into by the directors. The company may be liable but it cannot, normally, enforce the benefit of an ultra vires contract against the other party.

© ABE

Law of Agency 1: Agency Agreements and Agents

187

An alien enemy cannot appoint an agent, because it is unlawful to contract with an enemy in time of war. A possible exception is in the case of mentally disordered persons. You will remember that a contract with such a person is voidable, unless it is made during a lucid period. However, it has been held that a power of attorney , i.e. of either the Lasting or Enduring types, executed by a person under a mental incapacity is void (not merely voidable), and a deed executed under the power was likewise void (Daily Telegraph Newspaper Co. Ltd v. McLaughlin (1904)). Furthermore, it was held in Yonge v. Toynbee (1910) that, where the principal (unknown to the agent) was insane, then the agency was terminated. It seems, therefore, that such persons are incapable of acting as principals, even though, in lucid periods, they are quite competent to contract on their own behalf. (b) To act as agent Strangely enough, people can validly be agents even though they cannot validly act on their own behalf. All people of sound mind are competent to act, and to contract, as agents. This includes minors and others with limited or no capacity to contract on their own behalf. However, any personal liability of an agent arising out of exceptional circumstances from a contract entered into on behalf of a principal will arise only if he/she would have had the capacity to contract on his/her own behalf. Normally, as we shall see, an agent is not liable personally in respect of contracts into which he/she enters in his/her capacity as agent. However, in certain circumstances, e.g. if he/she exceeds his/her authority, he/she may be personally responsible. It is only this latter liability that will be affected by his/her own legal capacity or incapacity to contract. An example of where a person under a legal incapacity can validly act as an agent is Foreman v. GWR (1878). In this case, a farmer sent some cattle by rail. His driver, who was unable to read, signed a consignment note which contained the railway's conditions of carriage. HELD: The farmer was liable. The personal liability of the driver was limited because he would not have been fully liable if he had entered into the contract personally.

Acts that May Be Done through or by an Agent
A person may appoint an agent to do any act which he/she himself is capable of, except such acts that require his/her personal skill, knowledge or discretion, or which he/she must, by statute, do himself. Certain contracts can only be executed by the principal personally. For example, I would be extremely cross if I engaged a well-known surgeon to carry out an operation and he appointed his 16-year-old son to carry it out as his agent! Equally, statute decrees that certain acts must be done personally. A will, for example, can only be executed personally.

B. HOW AGENCY ARISES
An agency relationship can arise in a number of ways.

By Express Agreement
By far the commonest way is by agreement between principal and agent. Such agreement can be contractual or not. If contractual, the normal rules of contract apply, that is, there must be offer, acceptance and consideration. Such mitigating factors as misrepresentation, mistake, duress or illegality affect an agency contract in exactly the same

© ABE

188

Law of Agency 1: Agency Agreements and Agents

way as any other contract. Unless the agency is of a character which requires it to be in writing, for example a power of attorney, it is equally valid whether written or oral. However, an express agency agreement need not be contractual. There may be no consideration, or one or both parties may lack contractual capacity. As we have seen, minors can be both principals and agents, so an express agency agreement between two young people is perfectly valid as between themselves. Alternatively, if it is not intended that legal relations between principal and agent shall subsist, the relationship cannot be contractual. For instance, a husband may agree to be the agent of his wife or a son agent of his mother and so on. Relations between such parties would rarely have a legally intended basis. Nevertheless, such an agent can effectively bind his/her principal to a contract, or act in some other way on his/her behalf. The principal is legally bound by the act of the agent, regardless of whether the relationship inter se is contractual or not. The only difference is that the degree of care which the agent must exercise must differ. We shall discuss this further in a later chapter. Of course, we are assuming that the contract entered into by the agent on behalf of the principal is itself legally binding, and is not a domestic arrangement, as in Merritt v. Merritt (1970) or Gould v. Gould (1970). In Merritt v. Merritt (1970), during a period of formal separation, the husband prepared and signed a document stating that, in consideration of his wife paying all the charges relating to the matrimonial home, including the mortgage repayments, he would agree to transfer the home to his wife's sole ownership. The wife paid the mortgage off but the husband did not subsequently transfer the property to him/her, contending that the agreement was a family arrangement not intended to create legal relations. HELD: The agreement was enforceable by the wife – it had been made during a period of formal separation, the husband had received valid consideration, in that he had been personally relieved of the responsibility of the mortgage repayments, and the wife was entitled to the relief sought. In Gould v. Gould (1970), a husband, on leaving his wife, agreed to pay him/her £15 per week "so long as I can manage it". HELD: The uncertainty of this term negatived a legally binding agreement. To make the position clear, we list four situations:     An adult principal and an adult agent – a commercial transaction. The agent oversteps his/her authority and may be personally liable. Same situation, but the agent suffers from a disability. If he/she would not be personally liable on his/her own contract, he/she cannot be on his/her principal's. A family arrangement, simply domestic, not legally binding. No different if negotiated through an agent. A simple case of a husband acting as his wife's agent. No need for an agency contract.

By Implication
An implied agency arises where both principal and agent have behaved towards each other in such a way that it is reasonable to infer from their conduct that they have both agreed to the relationship. The consent of the principal is likely to be implied where he/she has put another person in such a position that, in accordance with ordinary principles and practice, that person could be understood to be his/her agent. The same applies where the principal has used such words that a reasonable person would infer that he/she had agreed to another acting as agent on

© ABE

Law of Agency 1: Agency Agreements and Agents

189

his/her behalf. However, as with any other contract, silence does not imply consent. Therefore, where a person purports to act on behalf of another, the first will not be agent by implication, unless the other gives some indication of agreement. Consent of an agent to act as such is perhaps easier to imply. It usually arises where he/she acts on behalf of the principal, although merely doing something that a person requires done does not, of itself, mean that that thing was done on behalf of the requester. Thus, it is implied from the particular position held by individuals that they have the authority to enter into contractual relations on behalf of their principal, as illustrated by Panorama Developments v. Fidelis Furnishing Fabrics Ltd (1971), where it was decided by the court that a company secretary had the implied authority to make contracts in the company's name in relation to the day-to-day running of the company.

By Estoppel
This form of agency is also known as “agency by holding out” and arises where the principal has led other parties to believe that a person has the authority to represent him/her (the authority possessed by the agent is referred to as his/her “apparent authority”). In such circumstances, even though no agency/principal relationship exists in fact, the principal is prevented (estopped) from denying the existence of the agency relationship and is bound by the action of his/her purported agent as regards any third party who acted in the belief of its existence. However, to rely on an agency of estoppel, the following two conditions must be satisfied.  The principal must have made a representation as to the authority of the agent to so act, as demonstrated by Freeman & Lockyer v. Buckhurst Park Properties Ltd (1964). In this case, a property company had four directors, but one director effectively controlled the company and made contracts as if he were the managing director, even though he had never actually been appointed to that position and, therefore, as an individual, had no authority to bind the company. However, the other directors were aware of this activity and acquiesced to it. When the company was sued in relation to one of the contracts entered into by the unauthorised director, it was held that the company was liable. The board, which had the apparent authority to bind the company, had held out the individual director as having the necessary authority to enter into such contracts on behalf of the company and this was, therefore, a case of agency by estoppel. The party seeking to use it must have relied on the representation, as demonstrated by Overbrooke Estates Ltd v. Glencombe Properties Ltd (1974). In this case, a notice, which expressly denied the authority of an auctioneer to make such statements, was successfully relied upon as a defence by the auctioneer's employers.

Agency of Necessity
The implied agency of necessity between husband as principal and wife as agent was done away with by the Matrimonial Proceedings and Property Act 1970. There are, however, circumstances where one person is deemed to act as the agent of another, even though no agreement or consent has been given by the principal, either expressly or by implication. This can arise only in an emergency where it is necessary for a person to act on his/her own initiative to protect the property or interests of another which are in imminent jeopardy as a result of that emergency. This is called "agency of necessity". If, as a result of such an emergency, a person does, of necessity, act without any authority to protect another's interest, that person is, by operation of law, vested with all the rights and immunities of a properly constituted agent. However, the emergency must be genuine, and the action taken necessary. Such a situation could arise from any number of causes, but

© ABE

190

Law of Agency 1: Agency Agreements and Agents

most of the reported cases are those of shipmasters before the days of wireless or radio, or carriers of goods who could not contact the owners. Now, with modern systems of communication, agency of necessity has become a rare and very limited class of agency. You should also note that the courts have always been reluctant to extend the doctrine of agency of necessity. It is probably easier for there to be agency of necessity where there is a pre-existing relationship between the parties. Agency of necessity very unusually covers the situation where a total stranger deals with the goods of the principal. It is also rare for the courts to find that agency of necessity exists where the goods are not perishable, though the High Court has a general discretion under the Civil Procedure Rules to order the sale of goods where it is reasonable to do so. The following three rules have been developed as to what constitutes necessity.   It must be practically impossible – or, at least, impracticable – for the agent of necessity to contact the principal The action taken must be necessary and for the benefit of the principal. What is necessary is objective – what a reasonable person would consider necessary, not necessarily what the agent thought to be necessary The agent must have acted bona fide in the interests of the principal.

An important proviso is that this type of agency applies only where there already exists some relationship of a contractual nature between the principal and the person acting on his/her behalf. Thus, if Adam asks his neighbour, Belle, to keep an eye on his house while he is on holiday, this might be construed as a contractual relationship, depending on the facts. However, in the absence of such a request from Adam, Belle cannot claim to have acted as an agent of necessity when he/she arranged for the repair of Adam's greenhouse which was severely damaged in a storm while Adam was on holiday. The fact that Adam might rightly be considered to owe a moral obligation to Belle does not, in itself, constitute an agency of necessity. The following case amplifies the requirement of an actual commercial emergency or necessity. In Prager v. Blatspiel Stamp & Heacock Ltd (1924), S, as agents for P in 1915 and 1916, bought skins to the value of £1,900, to be dispatched to P, a fur merchant in Bucharest. P paid for the skins. Owing to the occupation of Romania by the German forces, it was impossible to send the skins to P or to communicate with him. In 1917 and 1918, S sold the skins, which had increased in value. HELD: As the skins were not likely to deteriorate in value if properly stored, there was no necessity for the sale, and S was liable in damages to P.

Formalities of Appointment
In general, no special formalities are needed for the appointment of an agent. The appointment may be under seal, or in writing, or oral. However, statute decrees that certain appointments must be made in a certain way. For example, the Powers of Attorney Act 1971 (as amended) Section 1(1) requires that any instrument creating a power of attorney must be made under seal. The Law of Property Act 1925, Sections 53 and 54, requires certain instruments to be in writing, and written authorisation is to be given to an agent to sign on behalf of the principal. Under the common law, the authority of an agent to execute a deed on behalf of a principal must, itself, be given under seal: Steiglitz v. Eglinton (1815).

© ABE

Law of Agency 1: Agency Agreements and Agents

191

C. RATIFICATION
As we have said, the agent must be authorised by a principal to act on the principal's behalf. Such authorisation may be express or implied. However, if an agent does an act without authorisation, the principal can always "ratify" the act afterwards. If he/she does so, the act then binds him/her to exactly the same effect as if it had been properly authorised in the first place. This applies equally whether the person purporting to act as agent was, indeed, an agent, but was merely exceeding his/her authority, or whether he/she had no authority to act at all. In general, the ratification of an act serves to authorise only that particular act, and does not serve to give the agent implied authority to do any other acts or, indeed, the same type of act again. However, a series of ratifications may well serve to imply an authority to do similar acts in the future.

What Can Be Ratified?
Any lawful act which can be done by an agent can be ratified by the principal. Also, most (but not all) unlawful acts can be ratified. By "unlawful" we don't necessarily mean "criminal" but tortious acts, or contractually unlawful acts (you will remember that a tort is a civil wrong not arising out of a contract). The principle is that, if an act which is unlawful or voidable when done by an agent can be made lawful (or no longer voidable) by ratification, then that ratification will be valid, whereas if the act was initially totally void or of no legal effect, then no purported ratification can cure what is incurable. Some acts done by an agent which were a wrong against the principal can be converted into lawful acts if the principal ratifies them. Say, an agent sells goods belonging to the principal, which he/she has no authority or right to sell. This amounts to the tort of conversion. However, plainly, the principal can ratify the transaction and, by so doing, exonerate the agent from liability. Alternatively, if neither principal nor agent has a right to sell those goods, ratification by the principal relieves the agent of liability for conversion and substitutes the principal as the party liable. The wrong could be righted. On the other hand, an act which is totally void from inception cannot be ratified. If the directors of a company make a contract which is ultra vires – that is, outside the scope of the Memorandum of the company – then it is not possible for the shareholders to ratify that contract: Ashbury Railway Carriage Co. v. Riche (1875). (Note, however, that the Companies Act 1989, as amended by the Companies Act 2006, has now largely abolished the ultra vires rule as between companies and outsiders. The validity of something done by a company cannot be questioned on the ground that there is no power to act in the company's Memorandum of Association and anyone dealing with the company in good faith is entitled to assume that there are no limits on the directors' powers.) In this instance, the directors would be acting as agents for the company, as principal. Equally, a forgery cannot be ratified. A principal cannot ratify a document which is null and void from its inception. Some illustrations may make this clearer. In Hilberry v. Hatton (1864), A, purporting to act as B's agent, but without any authority, bought an article from C. C had no right to sell it, and A's purchase amounted to conversion. B ratified A's purchase. HELD: B was liable for conversion.

© ABE

192

Law of Agency 1: Agency Agreements and Agents

In Eastern Counties Railway v. Broom (1851), the agent of a company assaulted a person on behalf of the company. The company ratified the assault. HELD: The company incurred a civil liability for the assault. In Brook v. Hook (1871), an instrument was signed by A in B's name, and without his authority. A's intention was to defraud. HELD: B could not ratify the act.

Who Can Ratify an Act?
Only the person on whose behalf an act was purported to be done can ratify that act. That person, the principal, must be in existence and capable of being ascertained at the time the act was done and must, both at the time of the act and at the time of ratification, be competent to ratify. The fact of being in existence normally refers to companies. An agent cannot do an act on behalf of a company which has not yet been formed, and subsequently have that act ratified by the company after its incorporation: Kelner v. Baxter (1866). In Newborne v. Sensolid Ltd (1954), the claimant, Newborne, formed a limited company called Leopold Newborne Ltd. Before the company was registered as a limited company, a document bearing the name and address of the company was submitted to Sensolid Ltd. The document was signed "Yours faithfully, Leopold Newborne (London) Ltd" with the name of Leopold Newborne underneath. Sensolid Ltd signed the document and thereby agreed to purchase certain goods from Leopold Newborne Ltd - they later failed to accept the goods. The claimant's solicitors then discovered that Leopold Newborne Ltd had not been registered at the time of the contract, and so they substituted the name of Leopold Newborne for that of the company. Sensolid Ltd contended that Newborne was in fact trying to sue on a contract which he had not personally made, but which purported to have been made by a limited company which had not been registered. HELD: No valid contract was formed upon which the claimant could sue. The company did not legally exist when the contract was made and Newborne himself could not sue as agent on behalf of a non-existent legal person. The position has now been clarified by Section 36 of the Companies Act 1985, as amended by the Companies Act 2006, which makes the company promoter personally liable on any pre-incorporation contracts. It is not necessary that the purported principal is actually named at the time the act is done, but it must be possible, if necessary, to describe him/her as the person who will be bound or, at least, the type of person – for example, "I act on behalf of a well-known firm of London estate agents". The intended principal must be competent at the time of the act. In Boston Deep Sea Fishing & Ice Co. v. Farnham (1957), a trawler owned by a French company was lying in an English harbour. The German occupation of France in 1940 turned the French owners into an alien enemy. A person, without the authority of the company, acted as manager of the trawler. HELD: As the French company was an alien enemy at the time of the act, it was not lawfully competent to contract with a British subject. It could not, therefore, ratify the acts of the manager. The principal must also be competent to ratify at the time of ratification. A mentally disordered person, for example, cannot ratify while still mentally disordered. Although the Companies Act 1989, as amended by the Companies Act 2006, has now largely abolished the ultra vires rule for contracts made by the company with outsiders, it still applies to internal

© ABE

Law of Agency 1: Agency Agreements and Agents

193

matters within the company, e.g. if the directors are exceeding their powers. Thus, as principal, the company can ratify an ultra vires act if the contract was made with an outsider.

Rules and Conditions of Ratification
(a) Ratification by a principal can have a retrospective effect – that is, the principal is, in effect, bound by the contract from the time when it was made by the agent, even though it was ratified only later. This is known as the rule in Bolton Partners v. Lambert (1888). It was held in this case that a ratification was effective, notwithstanding the fact that a third party had given notice to the principal (between the time when the contract was made by the agent and the time it was ratified) that he/she was withdrawing from it. This rule is subject to the proviso that, in the event that the agent made the contract specifically, or by necessary implication, subject to ratification by the principal, the offer or acceptance can validly be withdrawn prior to ratification: Watson v. Davies (1931). The reason for this is that, if the contract is made "subject to ratification", this is a condition precedent to validity. It is, therefore, not a fully valid contract until ratified. (b) Even if the principal initially refuses to recognise a contract purported to be made on his/her behalf by an agent, and then subsequently changes his/her mind, this latter ratification will be as effective as if made in the first place – provided, however, that any third party could not be unfairly prejudiced by the principal's change of mind. However, ratification is not allowed in any case where a third party would be unfairly prejudiced by it. For example, if an act has to be done by or within a certain time, then it cannot be ratified after this time, if to do so would be detrimental to a third party. Where there is no contractual term as to date of performance, ratification of a contract must be effected within a reasonable time and, in any event, before the time for performance by the other party to the contract: Metropolitan Asylums Board Managers v. Kingham & Sons (1890). A principal must have full knowledge of all relevant circumstances relating to the contract before he/she can properly ratify it, unless it can be shown that he/she intended to ratify the agent's act regardless of the surrounding circumstances. For example, in Freeman v. Rosher (1849), an agent had his principal's authority to distrain for rent – that is, to seize a person's belongings for non-payment of rent. The agent seized a fixture, which he/she was not entitled to do, sold it and paid the proceeds to the principal. The principal received the money without knowing that it was a fixture that had been sold. HELD: The principal had not, thereby, ratified the wrongful act of his agent.

(c)

(d)

What Constitutes Ratification?
There are a number of rules as to what constitutes ratification.  It may be either express or implied. Ratification, by implication, will occur if the principal, by his/her conduct, shows that he/she has adopted all or part of the contract. The receipt and retention of money derived from the contract with knowledge of the circumstances will count as adoption. Likewise, if the principal uses or disposes of goods derived from the contract, it will amount to ratification by implication. If an agent exceeds his/her authority, mere silence by the principal after knowledge of the act will amount to ratification.   If the principal adopts part of a contract, this will serve to ratify the whole. Oral ratification of a written contract is valid. However, if the contract is under seal, it can be ratified only by a document in writing and under seal.

© ABE

194

Law of Agency 1: Agency Agreements and Agents

Effect of Ratification
As we have seen, ratification is the adoption of the act of an agent who was not previously authorised to do that act, by the principal, so as to bind the principal. It serves to place all the parties involved in the transaction in the same position as they would have been in had the agent been properly authorised from the outset, that is, with the same rights, duties and liabilities. In Buron v. Denman (1848), the Royal Navy, at the time, was bent on suppressing the slave trade. The captain of a British warship released the slaves and destroyed the property of a Spanish subject resident in Africa and carrying out slave-trading. The Foreign Secretary ratified the act of the captain. HELD: Ratification turned the act into an Act of State, from which the aggrieved Spanish subject had no legal redress. A more commercial example is Cornwal v. Wilson (1750). A factor (that is a person similar to a "land agent") contracted to buy goods on his principal's behalf. The contract price exceeded the limit of authority of the factor as agent. The principal subsequently took the goods and disposed of them. HELD: By disposing of the goods, the principal had effectively ratified the contract and he/she was, therefore, bound to pay the factor the full contractual price.

D. CATEGORIES OF AGENTS
The scope for agency relationships is, of course, infinitely wide. Wherever one person acts in matters of contract for or on behalf of another, he/she is an agent. An agent can act for profit or reward, or can act gratuitously. However, there are various categories of commercial agent who, broadly speaking, earn their living by being agents for others. Some of these act solely as agents; others include agency duties within a wider sphere of activity.

Factors and Brokers
A factor is a person who is entrusted with the goods of another – with both their possession and their control – for the purpose of sale. A broker, on the other hand, buys and sells goods, or "things in action", such as stocks and shares but he/she does not, normally, have physical possession or control over the items in which he/she deals. Factors – or "mercantile agents", as they are sometimes called – had a very important commercial role in the 19th century, but this is less true today. As a result of instant communication and rapid transport, their function has, to a large extent, been taken over by brokers. However, an understanding of the law relating to factors is important, as it impinges on both sale of goods and on agency. Furthermore, a person who carries out the functions of a factor, by whatever name he/she uses, is governed by the law relating to factors. Such people may, nowadays, call themselves "brokers", or "shipping agents", or "commercial agents", or whatever. However, if they have the goods of another in their possession and under their control for the purposes of sale, or if they purchase such, they are factors. New regulations were introduced in 1993 concerning commercial agents and their contracts and these are covered later in this unit. Factors Act 1889 The law relating to factors – partially statute and partially common law – was consolidated and amended by the Factors Act 1889. Section 1 of the Act defines a factor or mercantile agent, as follows: "The expression mercantile agent shall mean a mercantile agent having in the customary course of his business as such agent authority either to sell goods, or to

© ABE

Law of Agency 1: Agency Agreements and Agents

195

consign goods for the purpose of sale, or to buy goods, or to raise money on the security of goods." So, he/she must act as a mercantile agent in the course of a business as such. The mere fact of having the goods of another for sale does not, of itself, make that person a factor, and so, enable him to enjoy the benefits and incur the liabilities. He/she must be in the course of a business as such a factor. The main provisions of the Act are outlined below. (a) Where a mercantile agent is in possession of goods or documents of title thereto with the consent of the owner, then any sale or other disposition of those goods by him/her in the ordinary course of business is as valid as if he/she had the express authority of the owner to make that disposition. In other words, as far as the purchaser is concerned, the agent's authority is unimpeachable and the owner cannot claim that the agent had no authority to make the sale or disposition. There are additional provisions to safeguard a purchaser in the event of the agent's authority having been withdrawn without the purchaser's knowledge and in the event of sale by a clerk or other such person with the authority of the agent. (b) Where a person, or a mercantile agent acting for him/her, who has either sold goods, or bought them and is in possession of them, redisposes of them, then the subsequent buyer of those goods acquires as good a title as if the original owner had expressly authorised the sale. Again, this ensures the protection of third parties dealing with mercantile agents acting in the ordinary course of their business as such. A broker or other person who does not have goods in his/her possession is subject to the normal law of agency, and third parties dealing with him/her have no special protection. We shall discus this issue later.

Estate Agents
A person employed by the seller of a house to effect a sale is commonly called an estate agent and he/she is only a limited agent. Of course, by express agreement he/she can be invested with full agency powers, but his/her implied authority is far less. He/she has implied authority to describe the property, and to bind the vendor in respect of statements as to its value, but he/she does not have implied authority to conclude a contract of sale on behalf of the vendor. Nor does he/she have implied power to receive a deposit. In the event that the vendor instructs an estate agent to sell, the agent has implied power only to sign a standard contract of sale, and not one containing special conditions. The agent has a duty to inform his/her principal of the highest offer received at all times before a binding contract has been entered into.

Auctioneers
An auctioneer is the agent of the seller. At common law, an auctioneer does not have implied authority to give any warranties on the goods he/she sells, unless he/she is expressly so authorised. He/she does, however, have implied authority to accept deposits where it is the custom of the trade so to do, for example in sales of land or houses at auction. Furthermore, he/she has a lien on the goods he/she sells for the purchase price.

Bankers
Bankers are good examples of people who act as agents for their customers in respect of certain transactions, while acting in the capacity of debtor and creditor in other aspects of their duties.

© ABE

196

Law of Agency 1: Agency Agreements and Agents

Other Examples
We can now consider eight classes of people who are agents in respect of all or part of their duties.  Masters of ships These are, in many respects, the agents of the owners. They can, in certain circumstances, also act as agents for the cargo owners.  Solicitors These have implied authority as agents to appear for a client, and accept service of writs, etc. Clients are bound by the actions of solicitors done on their behalf, carried out in the ordinary course of the practice. Both solicitors and barristers have an implied authority as agents to effect compromises on behalf of their clients on matters connected with litigation.  Travel agents These are, generally, agents of the client for the purchase of travel tickets and the making of travel arrangements. They may also be the authorised agents of the carriers, for example airlines and rail companies, to sell tickets.  Insurance brokers These are, prima facie, the agents of the client to effect insurance. The fact that the broker's commission is paid by the insurance company does not affect this presumption, nor does the fact that he/she may solicit business on behalf of an insurance company, provided he/she is acting on his/her own initiative and not under instructions from the insurance company.  Stockbrokers These are, essentially, the agents of the client. They have considerable implied authority as such, but their function is outside the scope of this course.  Shipbrokers Shipbrokers are agents who are employed by shipowners to negotiate ships' charters and to carry out all the transactions connected with the vessels while they are in port. The shipbroker attends to the entering and clearing of the ships and to the collection of freights from the charterers.  Patent agents As a general rule, an inventor who wishes to patent an invention employs a patent agent on his/her behalf. This is, no doubt, owing to the fact that the law and procedure in connection with patents are extremely complicated. All patent agents must be registered.  Commission agents Commission agents are, generally, employed by foreign principals to buy and sell goods for a fixed commission. There are many types of commission agent, and no hard and fast rule can be applied to all cases. In some instances, the commission agent is, actually, a principal, but he/she takes his/her reward in the form of a fixed percentage instead of the best profit obtainable.

Del Credere Agents
These are special agents who (for an additional commission) are responsible to their principal for the solvency of and payment of the price by the buyer. The normal agency rule, as we shall see later, is that an agent who effects a sale on behalf of a principal is not liable

© ABE

Law of Agency 1: Agency Agreements and Agents

197

to the principal if the buyer fails to pay. A del credere agent assumes this liability towards his/her principal. If the buyer fails to pay, the del credere agent must do so out of his/her own pocket.

E. DUTIES OF AGENTS TO THEIR PRINCIPALS
A paid agent owes various duties to his/her principal. Some of these arise out of the contract of agency, others apply in varying degrees, depending on whether the agency is for reward or gratuitous and are implied by the common law or equity.

Contractual Agents
(a) Duty to perform The fundamental duty of an agent appointed under a contract is to carry out the agency contract in accordance with its terms, express or implied, and not exceed his/her authority. In Ferrers v. Robins (1835), an auctioneer was instructed to sell goods for cash only. Instead, he sold them and accepted a bill of exchange in payment. The bill was later dishonoured. HELD: The agent was liable for the price. If the principal's instructions (or the terms of the contract) are ambiguous, the agent will not be liable for breach if he/she fairly and in good faith interprets them one way, and acts accordingly. However, if the ambiguity is apparent, the agent must (if practicable) seek clarification before acting. (b) Duty to obey instructions An agent is required to comply with all reasonable and lawful instructions given by the principal in connection with the subject-matter of the agency, or the manner of carrying out his/her duties. This duty can, of course, be modified or even excluded altogether, by the terms of the agency contract and it is, in many cases, subject to the custom and usages of the trade. This is especially so in the case of a professional person acting as agent, who normally has a higher duty in respect of the rules and ethics of his/her profession. (c) Trade or professional custom The custom or usages of the particular trade or profession often serve to imply terms into a relevant agency contract. However, before such a term will be implied, evidence must be given concerning the custom. It must be a genuine custom of the trade, and not merely what is normally done in the ordinary course of business. The courts will apply an objective test to ascertain whether the parties must have intended to contract subject to the particular custom or usage alleged to have been incorporated – that is, "would a reasonable person have expected it to apply?" In Hutton v. Warren (1836), Parke B had this to say: "It has long been settled that, in commercial transactions, extrinsic evidence of custom and usage is admissible to annex incidents to written contracts, in matters with respect to which they are silent. The same rule has also been applied to contracts in other transactions of life, in which known usages have been established and prevailed; and this has been done on the principle of the presumption that, in such transactions, the parties did not mean to express in writing the whole of the contract by which they intended to be bound, but a contract with reference to those known usages."

© ABE

198

Law of Agency 1: Agency Agreements and Agents

However, before a custom will be inferred into an agency contract, the party who asserts it must provide evidence that it is:     reasonable universally accepted in the trade or profession, or in the locality concerned certain, i.e. not ambiguous or vague not unlawful.

Nor must the custom be inconsistent with other terms of the contract. A further use of custom is to explain technical terms of the contract, or to clarify terms which may be used in a different sense from the ordinary meaning of those words. An example of an alleged custom not being implied was provided in Gibbon v. Pease (1905). An architect claimed he was entitled to retain plans and drawings after his work had been completed and he had been paid. He alleged that it was the custom. HELD: If such a custom indeed existed, it was unreasonable, and would not be implied into the contract. (d) Duty to perform the contract with diligence It will, normally, be implied in every agency contract that the agent will carry out his/her duties with reasonable diligence. If he/she is unable to carry them out within a reasonable time, or is not prepared to, then he/she has a duty to notify his/her principal of this fact. This is no more than the requirements placed on a party to any contract to perform it within a reasonable time, if the contract does not specify a time for performance. Time is not of the essence of a contract unless the contract provides for it to be so. Reasonable diligence is, of course, a matter dependent on the circumstances of the case. In Barber v. Taylor (1839), an agent was instructed to purchase goods from abroad, and send the bill of lading to his principal. He failed to release the bill of lading until several days after the vessel had arrived in the UK. HELD: The agent was in breach of contract by failing to deliver the bill of lading within a reasonable time; 24 hours after arrival was considered a reasonable time. (e) Duty to exercise due skill and care The common law duty of an agent acting for reward is to exercise such skill and care in performing his/her duties as is reasonable and normal in the trade, profession or business in which he/she is engaged. This common law duty now has statutory force by virtue of the Supply of Goods and Services Act 1982, Section 13. Part II of the Act covers the supply of services, and the performance of an agency contract is one of service, even though the service entails the supply or purchase of goods. Section 13 states: "In a contract for the supply of a service where the supplier is acting in the course of a business, there is an implied term that the supplier will carry out the service with reasonable care and skill." Section 14 of the Act provides, likewise, that, in default of any stipulated time for performance, the service must be carried out within a reasonable time. In the context of an agency contract, this relates to the common law duty of diligence. The duty of skill and care is a contractually implied term. However, failure to exercise reasonable skill and care also constitutes the tort of negligence. A long line of cases involving different types of person has established that (in most instances) claims for failure to exercise the necessary degree lay in contract and not in tort. A leading case

© ABE

Law of Agency 1: Agency Agreements and Agents

199

is Bagot v. Stevens, Scanlon & Co. Ltd (1966), where the Court of Appeal held that, in the case of an architect, the duty lay primarily in contract. Whether a claim against a professional person for failure to use proper skill and care is pursued in contract or in tort may seem to be of academic interest only. However, this is not necessarily so. There are different rules in contract and in tort as to which damages can be claimed (remoteness of damage) and when a cause of action arises (affecting the limitation period, i.e. over what period an action may be brought). Therefore, there may be advantages for a principal to proceed against his/her agent who has failed to exercise proper skill or care under one or other of the heads. However, until recently, there was no option. The action lay in contract only unless, in certain cases, the aggrieved party could claim that a professional person, as well as failing to exercise due care, had also failed in his/her duty to exercise professional competence. However, in Batty v. Metropolitan Property Realisations Ltd (1978), the Court of Appeal held that to restrict the right to sue in either contract or tort to cases involving strictly professional negligence was illogical. It seems, therefore, that the breach of a contractual duty to exercise due care can now also be pursued in tort, if the conduct complained of does also constitute the tort of negligence. The degree of skill and care to be exercised by an agent depends on his/her business or profession. It is that degree that is expected of the ordinary competent practitioner in the business or profession concerned. A doctor is not judged by the standards of the top Harley Street specialist, but by those of the average qualified doctor, and so on. An agent is not expected to be perfect – merely to be reasonably competent, qualified as necessary, and up to date. He/she must act within these parameters.

Gratuitous Agents
Agents who are not acting for profit or reward owe duties to their principals – but not of such a high order. The standard of skill and care required is only that which people ordinarily exercise in their own affairs. If the gratuitous agent has held out to the principal that he/she possesses a particular skill or expertise, then the standard of care required of him/her will be that ordinarily shown by people who do possess that skill or expertise. A gratuitous agent is not a contractual one. Therefore, the duty he/she owes his/her principal lies only in tort. On the authority of the decision in Hedley Byrne & Co. Ltd v. Heller & Partners Ltd (1964), such an agent is free to restrict or exclude all or any liability, if he/she wishes. As no contract is involved, the provisions of the Unfair Contract Terms Act 1977 will not apply. In Hedley Byrne, a customer asked its bank to give a banker's reference on a prospective client. The bank sought this from the client's bankers. They duly replied, giving a favourable reference but adding that it was given "without liability". In fact, the client was in dire financial straits, and its bank was aware of this. It was held by the House of Lords that the bank owed a duty of care to the original enquirer, and that it had been negligent. However, it was saved from liability for the ensuing loss by its disclaimer. A gratuitous agent cannot be held liable for failing to carry out the work he/she has been given, because there is no contract between him and the principal. However, it is probable that some liability will arise in tort, based on the principle of estoppel. If the principal has relied on the promise of his/her gratuitous agent, and so failed to find someone else to do the work, the agent would, it is suggested, be estopped from denying that he/she had agreed to perform, and so owe a duty of care to undertake the work properly. However, there is no authority for this proposition.

© ABE

200

Law of Agency 1: Agency Agreements and Agents

The standard of care required of a gratuitous agent, if he/she undertakes the work, is not easy to define. It has been suggested that he/she will be liable only for "gross negligence". While "gross negligence" is a term of common use and is a standard used in other jurisdictions, it is not known to English law. There are no grades of negligence: a person is either negligent, as understood by the legal definition of the term, or not. Therefore, it is probable that the standard of care required is "that which may be reasonably expected of him in the circumstances". (The tort of negligence is of considerable complexity and this is outside the scope of this course.)

Fiduciary Duties of all Agents
An agent is said to be in a fiduciary relationship towards a principal; he/she is, loosely speaking, in a position of trust. However, he/she is not a trustee in the legal sense. A trustee owes a higher degree of integrity and duty towards a beneficiary than an agent does towards a principal. Perhaps, we can best sum this up by saying that an agent must behave honourably and loyally in all his/her dealings with his/her principal. Having said that, let us look at the various situations in which an agent is required to behave in a certain way. (a) Duty to make full disclosure An agent is required to act in the best interests of his/her principal; or, at least, in what he/she reasonably considers to be his/her principal's best interests. If, as often happens, his/her principal's interests conflict with his/her own, he/she is not automatically barred from acting, but he/she must first make a full disclosure to the principal of his/her own personal interests in the matter. If full disclosure is made, the principal is then in a position to decide whether to proceed with the matter or whether to find another agent. Examples of where an agent's interests are likely to conflict with those of the principal are if the agent:     buys the principal's property, or sells his/her own property to the principal; receives commission from both parties to a transaction; stands to receive a benefit or a profit from some person other than the principal; is in a position to exploit his/her personal interest as a result of the agency.

In any instance where the agent's personal interests do (or may) conflict with his/her principal's, the agent has a duty to make a full and complete disclosure of all the material circumstances, and of the precise manner and extent of his/her personal interest. If the principal, with full knowledge, then consents to the agent's acting, all well and good. Furthermore, it is the agent's responsibility to give this information; it is not sufficient if he/she merely indicates a possible clash of interest, and leaves it to the principal to ascertain the details. Disclosure must be made if a conflict of interest may arise – it does not matter that a conflict does not, in fact, occur. In Boardman v. Phipps (1967), a trust fund held shares in a private company. The solicitor to the trust fund used his position, and the knowledge he had acquired by virtue of his position, to acquire additional shares in the company, both for himself and for the trust fund. In fact, both the fund and he personally profited by the transaction. HELD (by the House of Lords): He was in breach of his fiduciary duty as, had the trust asked for his opinion on the advisability of acquiring additional shares, he would not

© ABE

Law of Agency 1: Agency Agreements and Agents

201

have been able to give an unbiased view, because of his personal interest in the matter. Boardman v. Phipps is the leading modern case on this subject and, although it involved a trust, it is equally applicable to a pure agency situation. (b) Dealing with the principal Should an agent enter into a contract or other transaction with his/her principal, then he/she must make a full disclosure of the circumstances, and of all that he/she knows about the subject-matter. This situation is likely to arise where the agent proposes either to buy the principal's property him/herself or to sell his/her own property to the principal. If this does occur without the principal's informed consent, he/she can either rescind the contract or require that the profit the agent has made be handed over to him. A director of a company, for example, is not permitted to sell to the company goods that either he/she, or another company in which he/she has an interest, has manufactured: Aberdeen Railway Co. v. Blaikie (1854). (c) Secret profits and bribes A contractual agent receives an agreed fee or commission for his/her services. He/she is not allowed to make any additional profits as a result of the agency, unless he/she discloses them (these are called "secret profits"). Should he/she do so, the principal can require the secret profits to be handed over to him. A bribe falls into the category of secret profits. Under the Prevention of Corruption Act 1906, both the agent who accepts a bribe and the person offering the bribe are liable to criminal penalties (fines or imprisonment). The acceptance of a bribe by an agent produces an irrebuttable presumption that he/she has been influenced by the bribe. It is of no consequence that the agent has not, in fact, been influenced, nor that the principal has not, in fact, suffered any loss. The mere acceptance of a bribe is a breach of fiduciary duty. Not only may the agent be required to hand over the amount of the bribe but, also, he/she forfeits the right to receive any fee or commission in respect of the transaction. A further instance of secret profits is where an agent acts for both parties to a transaction without the knowledge of the respective principals. An agent who is employed to negotiate a loan for his/her principal may not accept a commission from the lender: Re a Debtor (1927), nor may an insurance broker who is an agent of the insured act as agent for the underwriters for the purpose of getting an assessor's report. Where an agent accepts any bribe or secret commission, the principal may exercise any or all of the following remedies, according to the circumstances.      (d) Dismiss the agent without notice. Recover the secret commission from the agent, if it has been paid over or, if it has not been paid over, then from the person who has promised it. Bring an action for damages against the person who gave or promised the bribe. Refuse to pay the agent any commission or remuneration in connection with the transaction; he/she may recover any commission which has been paid. Repudiate the whole transaction.

Using the position as agent to acquire personal benefit If an agent uses his position to acquire a benefit or secret profit from a third party, he/she is required to account for it to his/her principal: Keech v. Sandford (1726).

© ABE

202

Law of Agency 1: Agency Agreements and Agents

Property was leased to a trust. The lease was determined by the landlord, whereupon a trustee acquired the lease for himself. HELD: The trustee held the lease in trust for the beneficiaries. It was stated by the court: "If the agent uses a position of authority, to which he has been appointed by the principal, so as to gain money by means of it for himself, then also he is accountable to the principal for it." (e) Using property of the principal to acquire a personal benefit or profit Property includes not only goods or physical possessions but also intangible rights. Therefore, an agent is not permitted to use his/her principal's goods or confidential information he/she has acquired as a result of his/her duties to make a personal profit for his/herself. In the Court of Appeal, in the case of Boardman v. Phipps (1967), quoted above, Lord Denning MR said: "It is quite clear that if an agent uses property, with which he has been entrusted by his principal, so as to make a profit for himself out of it, without his principal's consent, then he is accountable for it to his principal. Likewise with information or knowledge which he has been employed by his principal to collect or discover, or which he has otherwise acquired, for use of his principal, then again if he turns it to his own use, so as to make a profit by means of it for himself, he is accountable." (f) Money received for the principal's account An agent has a duty to pay or account on demand for any money he/she receives, or which he/she holds, which is for the account or use of the principal. In other words, an agent cannot hold onto money which, in reality, belongs to his/her principal, if the principal requires it to be handed over. This rule applies notwithstanding the fact that third parties may have claims on that money, and even if the money was received by the agent as a result of a void or an illegal transaction. For example, a turf-commission agent is employed to place bets for his customers (principals). If these bets result in winnings, the agent is required to pay over such winnings actually received by him. This is so, even though as a result of the Gaming Acts 1845 and 1892 (as amended), the actual bets are void and in the event of nonpayment of the stake by the customer, the agent could not recover from him: De Mattos v. Benjamin (1894). (g) Accounting requirements Agents are required to keep property or money belonging to the principal separate from their own. It is also their duty to keep proper and accurate accounts of all transactions carried out in the course of their agency. They must produce such accounts and supporting books and documents to the principal or his/her agent on demand. (h) Acquiring the principal's property in the agent's own name If an agent acquires property for or on behalf of his/her principal, but in his/her own name, then he/she is, of course, the legal owner of it. However, he/she holds it as a trustee for the principal.

© ABE

Law of Agency 1: Agency Agreements and Agents

203

Contracts between a Principal and a Third Party
The general rule, which is of the very essence of the relationship of principal and agent, is that an agent is not liable on contracts which he/she makes, in his/her capacity as agent, between his/her principal and a third party. Although the agent actually makes the contract with the third party, he/she does so on behalf of the principal, and it is the principal's contract. Having made it, the agent, in effect, drops out. We consider exceptions to this in a later chapter.

F.

RIGHTS OF AGENTS AGAINST PRINCIPALS

An agent has numerous duties and responsibilities vis-à-vis his/her principal – but he/she also has rights.

Payment
It is interesting that an agent is not entitled to any payment or remuneration for services as of right. His/her only entitlement is if the contract of agency expressly or by implication provides for it. This means that a non-contractual agent has no entitlement to be paid, and is truly a "gratuitous agent". On the other hand, where the agency is contractual, and the agent is in the course of a business as such, then remuneration will be very readily implied if the contract makes no express provision for it. In the case of professional agents who charge on a fixed scale, this scale does not automatically apply, unless it can be shown that a term of the contract, express or implied, so provides. Frequently, however, in such cases, the custom of the trade or profession will ensure that the scale is implied into the contract. Assuming the agency contract does provide for remuneration, there are various rules as to if and when it is, in fact, payable. (a) Effecting a transaction If the agent's remuneration is due on the occurrence of some future event, he/she is not entitled to it unless and until that event actually occurs. If it does not occur, he/she has no right to payment for services rendered on the basis of work done (quantum meruit). Frequently, agents receive their commission only when they actually effect some transaction. Much of the litigation in this area has revolved around the rights of estate agents to charge commission in respect of property sold through their efforts. Ultimately, the whole question hinges on the proper construction of the contract, but very clear and unambiguous words must be used if an estate agent is to get any commission, unless an actual sale takes place. The reason for this, as was pointed out by the House of Lords in the leading case of Luxor (Eastbourne) Ltd v. Cooper (1941), is that the agent does not promise to do anything, nor is any obligation put upon him. In effect, all the contract says is: "If the agent introduces a purchaser, and a sale takes place, then he is entitled to commission." Consequently, if the vendor sells his/her house himself to a person who was not introduced by the agent, the agent is not entitled to a penny. Further, if a prospective purchaser who has been introduced by the agent withdraws after the contract of sale has been made, but before completion, the agent is not entitled to any commission. He/she has not "introduced a purchaser": James v. Smith (1931). However, as we have said before, it all really depends on the wording of the contract.

© ABE

204

Law of Agency 1: Agency Agreements and Agents

(b)

Effective cause of transaction Where the contract provides for commission to be paid on a transaction to be brought about by the agent, it will not be due unless the agent is the effective cause of the transaction occurring. If it occurs without the involvement of the agent, he/she is not entitled to commission. In Miller, Son & Co. v. Radford (1903), a vendor employed an agent to find a purchaser for his property or, failing that, a tenant. The agent introduced a tenant and his commission was duly paid. Just over a year later, the tenant purchased the property. The agent claimed commission on the purchase. HELD: He was not the cause of the purchase; therefore, there was no entitlement to commission.

(c)

Implied term On the other hand, a term will readily be implied in business agency contracts that the principal will not prevent the agent from earning his/her commission. For example, in G Trollope & Sons v. Martyn Bros (1934), the Court of Appeal held that the vendor of a property would be liable to the agent if he unreasonably withdrew from negotiations with a prospective purchaser, and so prevented the agent earning his commission. However, in Rhodes v. Forwood (1876), a colliery owner appointed a sole agent for seven years for the sale of his coal in Liverpool. After four years, he sold the colliery. HELD: There was no breach of contract. The owner was not obliged to sell coal in Liverpool and he was free to sell it anywhere he liked. If this did not constitute a breach – which it didn't – then selling the whole colliery was not a breach either.

(d)

Breach of duty An agent is not entitled to any remuneration in the event of serious misconduct or breach of duty. This, therefore, extends further than the rule we have previously mentioned – that an agent who accepts a bribe forfeits his/her remuneration. However, it appears that not all breaches of duty will deprive an agent of remuneration. In Robinson Scammell v. Ansell (1985), an estate agent had entered into a contract with clients to sell their home. A purchaser was introduced to the clients by the agent, and the clients accepted the purchaser's offer. The clients were, in turn, attempting to buy another property for themselves. The estate agent then found out that the clients' own purchase of a house had fallen through and, before telling his clients of this, he informed the prospective purchaser of their current home that the agreed sale might not proceed and he suggested alternative properties for him to look at. When the clients discovered what the agent had done, they informed the agent that they no longer wanted him to act for them. In the event, they then dealt personally with the prospective purchaser of their house and did, in fact, complete the sale of the house to him. The agent then requested payment of £920 commission, and the exclients refused to pay. In the county court, it was held that the agents were in breach of duty to their clients and that the clients were, therefore, entitled to treat the contract as repudiated and refuse payment of the commission. The Court of Appeal reversed this decision, and ruled that, in the circumstances, the estate agent, who had acted in good faith, was entitled to his commission, even though he was in breach of duty to his clients. Although an agent might commit a repudiatory breach of contract which would entitle the principal to bring the contract to an end, this did not, in itself, deprive the agent of rights which had already accrued to him under the contract. On the other hand, it was noted, certain breaches of duty by an agent might result in the agent losing his/her right to remuneration. For example, in Andrews v. Ramsey (1903), an agent who had made a secret profit, in breach of his fiduciary duty

© ABE

Law of Agency 1: Agency Agreements and Agents

205

to his client, was not only required to account to his principal for the secret profit, but was also deprived of his commission.

Indemnity
An agent is entitled to be reimbursed all expenses properly incurred on the principal's behalf, and to be indemnified against all losses and liabilities incurred in the execution of the agency. This is a general rule, and subject to exceptions, especially in the case of expenses. It may very well be that the contract envisages, or expressly provides, that the expenses incurred by the agent are included in the commission or fee paid. The custom of the trade or profession will, often, be an important factor. However, an indemnity against liabilities is more universal – although, again, the actual contract is the deciding factor. In Warlow v. Harrison (1859), an auctioneer was instructed to sell certain property, and he incurred liabilities in connection therewith. The principal then revoked his instructions. HELD: The auctioneer was entitled to be indemnified by the principal for the liabilities incurred. However, an agent is not entitled to indemnity, nor reimbursement:    incurred as a result of his/her own negligence or default for any unauthorised act which is not, subsequently, ratified by the principal in respect of any knowingly unlawful act.

Lien
All agents, prima facie, have a lien on the goods or chattels of their principals in respect of lawful claims they may have against them for remuneration, charges, loss, or liabilities incurred in the course of the agency. However, the lien of an agent can be displaced by express or implied agreement in the agency contract, or if goods or chattels are delivered to the agent for a special purpose, or directions for disposal are given that are inconsistent with the agent's lien. Normally, the lien of an agent is a "particular" lien – that is, it applies only to goods or chattels being retained by the agent as security against debts or liabilities arising in respect of those particular goods or chattels. In other words, if an agent has in his/her possession goods in connection with one transaction, He/she cannot exercise his/her lien over those goods in respect of debts which arise in connection with a separate transaction. However, a particular lien can be extended into a general lien by agreement. A general lien applies to all goods or chattels of the principal which are in the agent's possession, irrespective of how, or in respect of which transaction, the debt or liability arose. For a lien – whether particular or general – to operate, the agent must be lawfully in possession of the principal's goods or chattels. Or possession must be held by a third party for or on behalf of the agent. The third party who actually holds them must have acknowledged ("attorned") that he/she holds them on behalf of, or to the order of, the agent. Furthermore, the goods or chattels must have been lawfully obtained by the agent. You should note carefully that an agent's lien extends only to the goods and chattels belonging to his/her principal or documents of title to goods, for example bills of lading, or to securities such as share certificates. It does not cover money belonging to the principal held by the agent. Therefore, subject to any contrary agreement or trade custom, an agent has no right to offset his/her remuneration against money he/she holds for the principal. The right

© ABE

206

Law of Agency 1: Agency Agreements and Agents

to set off strictly applies only if and when the principal sues the agent for repayment of money owed. An agent loses his/her lien or it is extinguished:   when the sum due to him is tendered; so, if he/she refuses to accept the tender, he/she loses his/her right to retain the goods; if he/she acts in any capacity or enters into any contract which is inconsistent with retention of his/her lien; for example, an agent who had a lien on his/her principal's goods permitted the principal to have free access to the goods, and to use them for his/her own purposes, provided they were returned – he/she is held to have lost his/her lien: Forth v. Simpson (1849); if he/she waives it; waiver occurs whenever the agent expressly, or by his/her conduct, acts in such a way as to lead to the reasonable conclusion that he/she no longer considers the lien to be subsisting; if the agent voluntarily gives up possession of the goods which are the subject of the lien.

Goods Bought in an Agent's Name
Should an agent buy goods in his/her own name, without disclosing to the seller that he/she is, in reality, acting as an agent, then the agent becomes personally liable to the seller for the price. The result of this, as between principal and agent, is that the property in those goods vests in the agent until such time as the principal pays the price. When he/she does, the property in the goods is transferred to him – the normal rule being, of course, that, where the agent buys as an agent, and discloses this fact, then the property in the goods bought passes directly to the principal, and at no time vests in the agent.

G. COMMERCIAL AGENTS (COUNCIL DIRECTIVE) REGULATIONS 1993
The UK, unlike many Continental European countries, has not previously had specific legislation regulating the relationship between principals and commercial agents. However, under a 1986 EC Directive, it became necessary for the UK to issue regulations to cover this matter, bringing the UK broadly into line with other European Union member states and Continental practice. This was brought about by the issue of the Commercial Agents (Council Directive) Regulations 1993, which came into effect on 1 January 1994. The Regulations apply to all companies, individuals and partnerships who sell their products through commercial agents in the UK and, unusually, are retrospective in effect, i.e. they cover not only new contracts with such agents, but also existing contracts. The general effect of the Regulations is that commercial agents automatically receive much better legal protection for the duration of the contract. Additionally, a commercial agent is entitled to more favourable treatment on termination, and has enhanced rights to claim compensation or be indemnified, which may include, in some circumstances, the payment of commission following termination of the agency agreement. The parties (i.e. the principal and the agent) are not able to agree between themselves to contract out of many of these provisions, and any term in an agreement which is contrary to the Regulations will be void.

© ABE

Law of Agency 1: Agency Agreements and Agents

207

Definition of a Commercial Agent
Under the Regulations, a "commercial agent" is defined as: "a self-employed intermediary having continuing authority to negotiate the sale or the purchase of goods on behalf of another person ('the principal') or to negotiate and conclude the sale or purchase of goods on behalf of and in the name of his principal." Although the definition refers to "self employed" intermediaries, the Regulations apply whether the agent is an individual or a company. Agents for the provision of services only do not fall within the Regulations, nor do any of the following persons:        an officer empowered to bind a company or association, e.g. a director; a partner authorised to bind his/her partners; an insolvency practitioner; a commercial agent who does not charge for his/her services; a person who is operating on a commodity exchange or in a commodity market; Crown Agents for Overseas Governments and Administrations; a person whose activities as an agent are secondary. Unless the contrary is established, it will be presumed that the agency activities of, say, a mail-order catalogue agent for consumer goods, and consumer credit agents will be secondary to their other activities.

You should also note that the Regulations do not apply to distributors or intermediaries acting on a "one-off" basis or for a limited number of transactions (i.e. who do not have continuing authority) and apply only to the sale or purchase of goods. It is important to note that, if the agent takes title to the goods, he/she does not qualify for protection under the Regulations.

Summary of the Regulations
We can summarise the key points of the Regulations as follows. All commercial agency agreements falling within the scope of the Regulations must: (a) Specify the precise method and amounts of remuneration, commission and compensation or indemnity to be paid to the agent. (If an agency agreement is silent in regard to an agent's remuneration, the agent will be entitled to a level of remuneration which would customarily be payable or in the absence of custom and practice, an agent will be entitled to reasonable remuneration taking into account all relevant considerations.) Provide for the exchange of certain information, which may necessitate changes to procedures and records. For example, the principal must:  Notify the agent within a reasonable period of any unexpected downturn in business volume, i.e. when it is anticipated that the volume of commercial transactions will be significantly lower than that which the agent would have expected under normal circumstances. Keep the agent informed in writing of all acceptances, refusals or non-execution of orders which have been arranged by the agent.

(b)

 (c)

Specify the notice period required to terminate the agreement and payments which may become due following termination. On renewal or continuation of an agreement after the expiry of an initial term of three years or more, the Regulations stipulate that the agent is entitled to a minimum notice period of three months. The agent may, under the terms of the contract, be entitled to receive payments ("an indemnity") to the

© ABE

208

Law of Agency 1: Agency Agreements and Agents

extent that, for example, he/she has expanded the principal's business by bringing in new customers or increasing the volume of business from existing customers, and the principal continues to derive substantial benefit from these customers. Additionally, the Regulations: (d) Entitle the commercial agent, in certain circumstances, to claim compensation following termination (this would take into account the commission that the agent would have earned if he/she had been able to continue with the contract and may include payment of commission on orders arising after termination). For example, compensation may be payable by the principal where he/she is in breach by giving too short a notice to terminate the agreement with the agent. Limit the scope and duration of restrictive covenants on a commercial agent following termination. Any provisions restricting an agent's activities after the agreement is terminated will only be valid if they are in writing. In addition, these clauses must be reasonable in their scope in terms of products, geographical areas and customers. Also, no restriction can be for more than a two-year period following the date of termination of the agency agreement. However, the courts may continue to apply shorter periods, looking to the existing common law considerations and six months, as opposed to two years, is probably a more realistic assessment of a possible restriction on an agent's activities.

(e)

© ABE

209

Chapter 9 Law of Agency 2: Authority, Liability and Termination
Contents
A. Authority of Agents Definition of Terms Actual Authority Apparent Authority (Sometimes Called Agency by Estoppel) Presumed Authority

Page
211 211 211 213 214

B.

Delegation of Authority General Rules Position of the Sub-agent

214 214 215

C.

Rights and Liabilities of the Principal to Third Parties In Respect of Contracts Undisclosed Principal In Respect of Money Paid or Received

216 216 216 217

D.

Liability of the Principal for the Wrongs of the Agent Fraud Torts Committed by the Agent Money Misappropriated by the Agent Notice Given to the Agent Bribery of the Agent

217 217 218 218 218 219

E.

Relations between Agents and Third Parties If the Agent Contracts Personally Contracts under Seal and other Written Contracts Non-existent Principals Where the Agent is really the Principal Breach of Warranty of Authority Liability of Agents in Respect of Money Liability of Agents for Wrongs they Commit on the Principal's Behalf

219 219 220 221 221 221 222 222

(Continued over)

© ABE

210

Law of Agency 2: Authority, Liability and Termination

F.

Termination of Agency By Revoking the Agent's Authority Irrevocable Agency Effect of Revocation on Third Parties

223 223 224 225

© ABE

Law of Agency 2: Authority, Liability and Termination

211

A. AUTHORITY OF AGENTS
In the previous chapter, we referred to the "authority" of agents. There are a number of different types of authority, derived from different sources, which an agent may possess. It is necessary to study these in some detail but first, let us define them.

Definition of Terms
 Actual authority This is the actual authority given by the principal to the agent. It may be express or implied, that is, given by express words or implied from conduct or the circumstances of the case.  Apparent authority, or ostensible authority These are two terms for the same thing. In this chapter, we shall always refer to "apparent" authority – but remember that, if you see the term "ostensible" authority used elsewhere, it is the same thing. Apparent authority is the authority the agent has as it appears to others. An agent can plainly appear to have a certain authority which he/she does not actually possess.  Incidental authority The authority given to an agent will normally be in respect of his/her primary tasks. However, it is implied that he/she also has authority to do all such things as are necessarily incidental to the performance of the duties given by his/her actual authority.  Usual authority Agents in particular trades or professions usually carry out certain set duties e.g. insurance brokers, stockbrokers, solicitors. Therefore, if a person in one of these trades or professions is employed in respect of that business as an agent, then he/she is presumed to have the authority to do whatever is usually done by agents in that particular business.  Customary authority This is similar to usual authority, but it is applied to the customs or usages of a particular place, as opposed to a particular business.  Presumed authority Certain relationships inevitably involve one person acting as agent for another e.g. husband and wife. In such cases, the agent is presumed to have a certain authority.

Actual Authority
(a) Express actual authority The capacity of an agent to act is the same as the capacity of his/her principal. Subject to exceptions already mentioned, anything the principal can lawfully do can be done for him/her by an agent. Therefore, the express actual authority of an agent can be co-extensive with the powers of the principal. Express actual authority can be conferred by deed, in writing, or orally. Authority by deed is, usually, called "a power of attorney" and as such, it is a formal document and construed more strictly than other types of express authority.

© ABE

212

Law of Agency 2: Authority, Liability and Termination

Authority granted by virtue of a power of attorney is only such as is actually given by the wording of the power, by necessary implication, and it is necessarily incidental for effective execution. Strict tenets of construction should be used. The construction of the authority given by a document not under seal, or given orally, is much more liberal, and it is designed to give effect to the object of the agency, and to the ordinary usages of business: Poole v. Leask (1860). However, if the express authority given to an agent is ambiguous or uncertain, then any act he/she does in good faith, which can be attributed to any of the possible meanings of the authority, will be deemed to have been properly authorised. This is so even though the meaning the agent ascribed to the authority was, in fact, different from that intended by the principal: Ireland v. Livingston (1872). This case was, of course, decided before the days of telephone and e-mail; therefore, it is suggested that, nowadays, if an authority was ambiguous on the face of it (as opposed to patently ambiguous), the agent would be under a duty to query the matter, if possible. The facts in Ireland v. Livingston (1872) were that a principal in England instructed his agent in Mauritius to buy and ship 500 tons of sugar, "50 tons more or less of no moment, if it enabled him to secure a suitable vessel". The principal stated that he would prefer shipment "to London, Liverpool or the Clyde, but if not possible to Liverpool or London". The agent shipped 400 tons on a vessel direct to London, which was not amenable to further orders. HELD: It was doubtful what the instructions meant, and the agent's action was, therefore, within the scope of his authority. (b) Implied actual authority Implied actual authority is whatever authority is necessary or incidental to the effective carrying-out of the agency in the usual way. It, therefore, includes "incidental", "usual" and "customary" authority. However, it is more; it is also the authority necessary to give business efficiency to the agency contract. This does not mean that an agent has discretion to contravene the express instructions of the principal if he/she considers them ill advised or impractical; it does mean that additional ancillary powers will be implied if they are not expressly given. For instance, consider the following points.     An agent who has express authority to receive payment or money has, prima facie, implied authority to receive it other than in cash e.g. by cheque. A managing agent has implied authority to do all those things necessary or usual effectively to manage. A professional agent has implied authority to do all those things which are usual in the profession or trade, but this does not extend to unusual things. Every agent has implied authority to act in accordance with the customs or usages of the trade or market in which he/she operates, and with the usual and prevailing commercial customs. However, this implied authority is subject to the rules for the implication of all customs: they must be reasonable, notorious (i.e. well-known), certain and not unlawful. The fact that the principal was not aware of the custom does not affect the issue. If it is shown that such authority is customary in the particular business or place, and such custom fulfils the necessary criteria, then it will be implied as part of the authority of the agent. Some customs are, in fact, so well known that judicial notice is taken of them. This means that their existence and application do not have to be proved by the person asserting them.

© ABE

Law of Agency 2: Authority, Liability and Termination

213

In certain cases, authority will be implied from a course of dealing between principal and agent. This can occur where an agent has enjoyed a particular authority which has not been expressly granted, and the principal has not, over a period of time, either objected to or queried it. In either case, which period of time is necessary to establish a course of dealing will depend on the circumstances.

Apparent Authority (sometimes called Agency by Estoppel)
This type of authority occurs either where the principal has led third parties to believe that his/her agent has a particular authority (called "holding out"), or where the agent has assumed a certain authority to the principal's knowledge, or where the principal becomes aware that the agent has assumed this authority, but takes no steps to correct the error or inform the third party of the fact that the agent does not possess such authority. If this situation develops without correction, so that the third party reasonably assumes the agent has the relevant authority, then the principal will be bound to the same extent as if the agent were properly authorised. Consider the following points.  The principal places restrictions on the agent's "usual" authority. If the agent then disobeys the instruction, he/she is liable to the principal, but the principal will still be liable to the third party who deals with the agent in good faith and without notice of the restriction. If there are no suspicious circumstances, the third party can treat the contract as valid. In Waugh v. Clifford & Sons (1982), solicitors acting for a firm of builders in a dispute concerning property were offered a compromise involving an independent valuer. They sought their client's instructions, but the instruction not to accept the compromise did not reach the partner concerned in time. HELD: The builder was bound by the compromise. It was within the authority of a solicitor to agree to such a compromise and the other side could rely on the solicitor's apparent powers.  It is essential that it is the principal who "holds out" the agent as having authority. The third party cannot enforce a statement by the agent that he/she has authority when there has been no such "holding out". In Armagas Ltd v. Mundogas S.A. (the "Ocean Frost") (1986), an agent, claiming to act on behalf of his principal, negotiated an unusual three-year charter of a ship. The contract was clearly outside the scope of the agent's usual powers, and the principal had not held out the agent as having authority to negotiate on his behalf. Nevertheless, the third party accepted the agent's statement that he had authority. It was held that the principal was not bound by the contract. Since there had been no holding out by the principal, there was no apparent authority.  It seems that the apparent authority given by the principal to the agent can continue after the agent has left the principal's employment, provided, of course, that the third party had no actual or constructive notice of the termination of authority. In Discount Kitchens Ltd v. Crawford (1988), a representative of a company gave C plans for a fitted kitchen. When he returned some months later, he did not disclose that he now worked for Discount Kitchens (D). However, the order form which C signed named D as the supplier. The work was defective and C sued both D and the other company (the original employers) on the basis that the representative had apparent authority to act on D's behalf.

© ABE

214

Law of Agency 2: Authority, Liability and Termination

It was held that, although such authority could continue after an agent had ceased to be employed by the principal, this could not apply where the third party had actual or constructive notice of the termination of the agent's employment. Since the order form was in the name of D, C should have realised that the representative had no further authority from the original employer and the alleged estoppel therefore failed.  If the principal is undisclosed, any restrictions on the agent's rights will not affect a third party who has been allowed to believe that he is dealing solely with the agent and who, therefore, cannot know of the restraints. In Watteau v. Fenwick (1893), Fenwick, the owner of a hotel, allowed the former owner to remain as manager and the manager's name appeared as licensee. The manager ordered cigars on credit from Watteau. This order was in breach of specific instructions from Fenwick, but there was nothing to make Watteau suspect this. It was held that Fenwick was liable for the price.

Presumed Authority
Certain relationships are such that the agency of one party has been presumed to include a certain authority. It does not arise in commercial affairs, but we must mention it briefly, for the sake of completeness. (a) Husband and Wife While husband and wife were living together and maintained a household, it was presumed that the wife had authority to pledge her husband's credit for necessaries suitable to the style of life which they were leading. This presumption could be rebutted if the husband had forbidden her to pledge his credit and notified the relevant tradespeople of this fact, or advertised it in a local newspaper; or, if she was already well supplied with such necessaries; or the husband had given her a sufficient allowance to cover such expenditure. In Miss Gray Ltd v. Cathcart (1922), a wife was supplied with clothes to the value of £215, and the husband refused to pay for them. On his being sued by the tradesman, the husband proved that he paid his wife £960 a year, as an allowance. It was held that the husband was not liable. Note that, in Ryan v. Sams (1848), it was held that a housekeeper is in a similar position to a wife, so far as the question of agency is concerned. It is the fact of cohabitation which raises the presumption of agency. (b) Parent and Child But there is no presumption that a child has authority to pledge the credit of the parents, even for the supply of necessaries. You will recall the special rules regarding minors in the law of contract, and that contracts for necessaries are valid.

B. DELEGATION OF AUTHORITY
General Rules
The general rule is that an agent cannot, without the express authority of his/her principal, delegate his/her authority to another or appoint a sub-agent to act for him in the whole or in part of his/her duties. The Latin maxim is "delegatus non potest delegare": someone to whom something is delegated cannot sub-delegate. The reason for this rule is that the appointment of an agent involves a principal in liability and risk; that is the purpose of it. An agent makes contracts or does acts on the principal's

© ABE

Law of Agency 2: Authority, Liability and Termination

215

behalf, which bind the principal. Therefore, the principal is entitled to expect and rely on the fact that the agent will not pass the task(s) over to someone else, probably unknown to the principal. If an agent does delegate without authority, or appoint a sub-agent likewise, the principal is not bound by the contract, and the agent is personally liable upon it. There are, however, five partial exceptions to this otherwise strict rule.   The first and obvious one is that the principal is always at liberty expressly to authorise the agent to delegate or appoint a sub-agent. If the task to be delegated is of a "ministerial" character, that is, one of merely carrying out an instruction in a routine fashion, and not involving any discretion or any confidence. For example, an agent who sent out manuscripts to be typed by a secretarial agency could not be deemed to be delegating or appointing a sub-agent. In certain trades, businesses or professions, the use of sub-agents is not only customary, but also necessary. Delegation in the course of such a business, etc. would not breach the rule of "delegatus non potest delegare". For instance, in the shipping and forwarding business, an agent in the country of despatch will almost invariably employ a sub-agent in the country of destination of the goods. If, during the course of agency, unforeseen circumstances arise, it may become essential for the agent to delegate. Power to delegate or to appoint a sub-agent will be inferred if the principal was aware, at the time of the agency contract, of the agent's intention to appoint a sub-agent, or where the conduct of the parties has been such as to show an authority or an intention to do so.

 

Position of the Sub-agent
There is no privity of contract between the principal and a sub-agent. Therefore, if the principal has cause to take proceedings against a sub-agent, he/she cannot do so directly in contract, but must sue the agent, who, in turn, will join the sub-agent in the action. However, if the principal has either expressly, or by implication, authorised the appointment of a sub-agent (and, perhaps, also if appointment is customary), the sub-agent will owe the principal a "duty of care", so as to enable the principal to sue direct in tort for negligence. In Junior Books Ltd v. Veitchi Co. Ltd (1982), the House of Lords held that a "nominated" sub-contractor in a building contract owed the building owner a duty of care falling only just short of a contractual relationship (a "nominated" sub-contractor is one named and approved by the employer). It is suggested that an authorised sub-agent would fall into this category. A sub-agent or delegated agent is, of course, the agent of the agent. So, in this respect, the agent is the principal of the sub-agent or delegatee. As between themselves, the normal agency rules apply. By the same token, provided the real principal has authorised or ratified the appointment of the sub-agent or delegatee he/she will, in effect, be bound by that person's acts in the same way as he/she is bound by the acts of his/her agent.

© ABE

216

Law of Agency 2: Authority, Liability and Termination

C. RIGHTS AND LIABILITIES OF THE PRINCIPAL TO THIRD PARTIES
In Respect of Contracts
As we have said before, a contract made by an agent on behalf of a named principal is the contract of the principal. Therefore, he/she can both sue and be sued in respect of it. The agent assumes no personal liability on the contract. That is the rule where both principal and agent are English. However, where an agent in England makes a contract on behalf of a foreign principal, the situation may be different. Until fairly recently, there was a very strong presumption in such a case that the agent had no authority to bind the principal and was, in fact, assuming personal liability in respect of the contract. However, in Teheran-Europe Co. Ltd v. S T Belton (Tractors) Ltd (1968), the Court of Appeal recognised that even the Law Merchant can change, and that the presumption that the agent was contracting personally where the principal was a foreigner no longer applied. It was a factor to be considered, but no more. However, normally, if an agent does some act which is beyond the scope of his/her actual or apparent authority, the principal will not be bound by that act. Furthermore, if the third party has notice of the actual authority of the agent, then the apparent authority of the agent will not be relevant. The principal will not be bound by any acts in excess of the agent's actual authority.

Undisclosed Principal
It sometimes happens that an agent will negotiate or contract with a third party, disclosing that he/she is an agent, but not stating the name of his/her principal. He/she may also not even disclose the fact that he/she is acting as an agent at all. Plainly, this must affect the situation. The third party cannot be expected to be bound by a contract if he/she does not know with whom he/she is contracting; even more so if he/she does not realise that the person with whom he/she is dealing is not, in fact, the principal at all, but acting for some unknown principal. In such cases the rules are as follows.  An undisclosed principal can sue or be sued in respect of any contract made on his/her behalf by his/her agent. So, as far as the principal is concerned, he/she can act in the normal way as if his/her name has been properly disclosed. Likewise, he/she can sue or be sued in respect of money paid or received on his/her behalf by his/her agent, provided the agent was acting within the scope of his/her actual authority. The undisclosed principal can also intervene in any contract made by his/her agent and, for example, take the benefit of it for himself. The exception to this rule is that, if the personality of the agent is of prime importance, then the principal cannot himself intervene. In Said v. Butt (1920), an agent obtained tickets for the first night of a show at a theatre, without disclosing that he was acting as agent. HELD: The real principal could not intervene to take the benefit of the contract for himself. The personality of the contracting party was an important consideration in the making of the particular contract.

© ABE

Law of Agency 2: Authority, Liability and Termination

217

The real principal can neither intervene, nor sue or be sued, if an express or implied term of the contract is inconsistent with such a right. In Humble v. Hunter (1848), an agent executed a charter-party for a ship, and was described in the contract as the owner of the vessel. He was, in fact, only an agent for the real owner. HELD: The real owner could not give evidence to show that the agent had contracted on his behalf in order that he might sue in respect of the contract, because this would be inconsistent with the contractual term that the agent was the owner. The courts now seem to be moving away from the principle in this case and will make the agent personally liable only where he/she has contractually warranted that he/she was the only principal, or the agent's personality was regarded by the third party as essential to the performance of the contract.

As far as the third party, who has contracted with an agent for an undisclosed principal, or with a person who has not disclosed that he/she is acting as an agent, is concerned, he/she can sue either the agent or (when he/she discovers the identity or existence of the principal) he/she can sue the principal. The corollary of this is, of course, that the agent is him/herself personally liable on the contract. He/she has a right to be indemnified by the real principal but if, say, the principal is insolvent, this right is not of much value!

However, although the third party can choose to sue either the agent personally or, when he/she discovers the identity, the principal, if he/she elects to sue the agent and gets judgment, then, if the judgment is not satisfied, he/she cannot later turn round and sue the principal (Priestley v. Fernie (1863)). The fact that an undisclosed principal has, in fact, paid an agent in settlement of a debt owing to a third party does not discharge the undisclosed principal from liability if the agent does not pay the money over to the third party.

In Respect of Money Paid or Received
As stated above, payment by an undisclosed principal to his/her agent does not absolve him/her of liability to the third party. The same applies if the principal is disclosed. In respect of normal disclosed principals, the situation is not always what you would expect. If a third party settles the debt he/she owes the principal by paying the agent, that third party will be discharged from liability only if the agent has actual (express or implied) or apparent authority to receive payment. Further, the third party has no right to set off against what he/she owes the principal sums that are owed to him/her by the agent: Fish v. Kempton (1849).

D. LIABILITY OF THE PRINCIPAL FOR THE WRONGS OF THE AGENT
Fraud
Fraud by an agent while acting within the scope of his/her actual or apparent authority does not affect the liability of the principal. The principal is still bound by the act of the agent, even though the agent was acting fraudulently and to further his/her own interests. However, this rule does not apply unless the agent was actually authorised (whether expressly or by implication), or apparently authorised, to do the act in question. Nor does it, probably, apply if the principal is undisclosed.

© ABE

218

Law of Agency 2: Authority, Liability and Termination

In Hambro v. Burnand (1904), B authorised A to underwrite insurance policies as his agent. Contrary to his authority, and in his own interest, A underwrote a guarantee policy in B's name. The underwriting of such policies was in the ordinary course of business for a Lloyd's underwriter, which A was. HELD: B was bound by the policy, even though it was in fraud of him.

Torts Committed by the Agent
The liability of a principal for torts committed by an agent depends, to an extent, on the status of the agent. If the agent is an employee of the principal, then the normal law of master and servant applies; the employer is liable for damage or loss caused by the wrongful act of the employee, while acting in the course of his/her employment. This means that the employee must have been engaged in or about the service of the employer when the wrongful act was committed, and not operating strictly on his/her own account. Say, a person is driving a company car, and he has an accident through his own fault. If he was on the company's business when the accident occurred, the employer would be liable. If, on the other hand, he was driving to take his wife shopping at the weekend, using the company car, the employer would not be liable. In the latter case, the driver would not have been in the course of his employment. This is called vicarious liability. In the case of all agents, whether they be servants or not, the principal will be liable for a wrongful act of the agent in the following instances.   If the act was either authorised or ratified by the principal. This is fairly obvious and no more needs to be said about it. If the wrongful act was done in the course of the business of the agency, and it was in connection with matters within the actual or apparent authority of the agent. In other words, if the tort was committed as part of or in connection with the agent's ordinary agency business, the principal will be liable. This applies even if the wrongful act was done for the benefit of the agent and not the principal. In Colonial Mutual Life Assurance Society Ltd v. Producers' and Citizens' Co. of Australia Ltd (1931), an insurance company was held by the Australian High Court to be liable for defamation committed by its agent while soliciting business.

Money Misappropriated by the Agent
Frequently, agents, as part of their duties, receive money from third parties which is for the account of their principals. An estate agent acting for the vendor of a house will, for instance, receive a deposit paid by the purchaser. Or the agent may receive money from the principal, or from a third party, which is for the account of another party. In all these cases, should the agent, having received the money while acting within the scope of his/her authority, misapply or misappropriate it, the principal will be liable. He/she will be bound to make it good to the third party. The principal will, of course, have a right of action against the agent, but the primary liability remains with him.

Notice Given to the Agent
A notice given to an agent within the scope of his/her actual or apparent authority is deemed to be notice duly given to the principal. So, if the agent fails to communicate the notice to his/her principal, the principal will still be liable as if he/she had actually received it.

© ABE

Law of Agency 2: Authority, Liability and Termination

219

Bribery of the Agent
This is one of the few instances where a principal is not liable for the act of his/her agent. Any contract made by an agent while under the influence of bribery is voidable by the principal. Furthermore, the person who bribed the agent is jointly and severally liable with the agent for any loss occasioned to the principal.

E. RELATIONS BETWEEN AGENTS AND THIRD PARTIES
The general rule is that, where an agent makes a contract in his/her capacity as agent between his/her principal and a third party, the agent is not liable to the third party in respect of it. The contract an agent makes is the contract of the principal and, once made, the agent drops out of the transaction. However, in a number of instances, this will not apply.

If the Agent Contracts Personally
When a person contracts as agent for another, it does not necessarily follow that he/she did not also contract personally, whether by accident or design. The third party must know with whom he/she is contracting, and who is liable to him on the contract. Therefore, if he/she thinks that the agent is fully liable, or he/she is led to believe this, then, in general, the agent will be personally liable. Alternatively, the agent may intend to perform the contract himself, and make him/herself liable in respect of it, either solely or jointly with the principal. So, having stated the general rule that the agent is not liable, we must now look at the cases where he/she is or may be so liable.  The first and obvious instance is that of a totally undisclosed principal, where the agent contracts on the basis of personal liability. Whether, in any particular case, he/she has done so can be ascertained only from the contract itself or the surrounding circumstances. Partners are automatically liable jointly with all their other partners for the debts and obligations of the firm: Partnership Act 1890, Section 9 (as amended). Furthermore, "every partner is an agent of the firm and his other partners for the purpose of the business of the partnership": Partnership Act 1890, Section 5. Therefore, every partner who does any act within the scope of the usual business of the partnership is, in the first place, an agent and in the second place, is personally liable, together with the other partners, for the consequences.  The agent may guarantee or stand surety for the obligations of his/her principal. This will, obviously, have the same effect as if he/she had contracted personally, albeit his/her liability is secondary to that of his/her principal. The agent may disclose the fact that he/she is acting as an agent, but not identify the principal. Cases in this instance hinge on whether the identity of the principal matters. In some contracts, it is plainly essential that the third party knows precisely who the principal is. It may be that performance by the principal involves special skill or expertise, or perhaps that it involves substantial liability. In the first such example, the third party will want to be satisfied that the principal possesses such skill. In the second, he/she will need to know whether the principal is sufficiently substantial to be able to meet any likely liability. So, in all cases where the identity of the principal is a material factor, if the agent fails to disclose the name of his/her principal, he/she will be deemed to be personally liable on the contract, in addition to the liability of his/her principal.

© ABE

220

Law of Agency 2: Authority, Liability and Termination

On the other hand, in certain types of contract, the identity of the principal is irrelevant. Such a case would be at an auction. The auctioneer is agent for the vendor. A prospective buyer bids, and it is plainly of no significance whatsoever who the vendor is. Therefore, the agent is not personally liable if he/she does not disclose his/her principal's identity. It all depends on the construction of the contract and the surrounding circumstances.  There used to be a very strong presumption that an agent who contracted on behalf of a foreign principal was contracting personally. This dated from the days before rapid communications, and when details of foreign businesses were not readily available in England. However, (as we saw earlier), in Teheran-Europe Co. Ltd v. S T Belton (Tractors) Ltd (1968), it was held that this rule was out of date. The fact that the principal is foreign is merely a factor to be considered if the question of the personal liability of the agent arises. It may, perhaps, indicate that the agent intended to undertake liability in addition to the principal. Del credere agents always undertake personal liability. They are agents of the seller, and they guarantee to their principals that, if the buyer does not pay, they will do so. In this respect, their liability is not, of course, to the third party. They do not guarantee to him that the principal will perform.

Contracts under Seal and other Written Contracts
Because of the importance of and strict rules regarding deeds and other contracts under seal, the rules as to the agent's personal liability are correspondingly strict. The rule here is that, if an agent executes a deed, it must be perfectly clear that what he/she is doing is executing the principal's deed. Therefore, if he/she executes it in his/her own name, he/she is personally liable. It does not matter that he/she may have been described as acting for a named principal. The deed must make it absolutely clear that the agent is the properly authorised agent or attorney of the principal for the purposes of executing the deed.  When drawing, endorsing or accepting a cheque, a bill of exchange or promissory note, an agent who writes after his/her signature words indicating that he/she is doing so as agent for a named principal is not personally liable on the instrument. However, if he/she merely writes the word "agent" or similar, without disclosing the name of the principal, he/she will be personally liable in respect of it.  In the case of written contracts other than deeds or negotiable instruments, it is a question of the proper construction of the contract as to whether personal liability will fall on the agent. If an agent signs a contract in his/her own name without stating that he/she does so as agent, he/she will be personally liable, unless the contract itself plainly indicates that he/she is signing in a representative capacity. However, merely describing him/herself as "secretary", "director", "agent", etc. does not of itself indicate that he/she is not intending to contract personally. Once again, depending on the wording of the whole document it is usually necessary for the principal or person on whose behalf he/she purports to contract to be named. In the case of a person signing on behalf of a company, he/she is usually signing as the company, and not merely as an agent for it. In the former case, personal liability will not arise.

© ABE

Law of Agency 2: Authority, Liability and Termination

221

Non-existent Principals
Apart from straightforward criminal fraud, with which we are not concerned, the instances where an agent contracts on behalf of a non-existent principal are likely to arise where he/she purports to contract on behalf of a company which has not yet been formed. This problem will arise when you study company law, but it is not always possible to keep legal matters in watertight compartments, so a brief survey here will be useful. The principle is that a company is a legal person. Before it is "born" or, to be accurate, properly registered according to the law of the country in which it is formed, it does not exist. However, acts and things often need to be done by the promoter of the company before it is actually formed. It may be that the intention is that the company shall purchase certain property, or exploit certain patents, or other rights. Whatever it is, the promoter may wish to tie things up before actually forming the company. If he/she does this, it cannot be done on behalf of, or as agent for, a non-existent entity. The principal is always personally liable on such contracts and the company, when it is formed, cannot be bound by them: Re English and Colonial Produce Co. Ltd (1906). Nor can the company itself, when formed, enforce a contract made before its incorporation, against the other party to it: Natal Land, etc. Co. v. Pauline Colliery Syndicate Ltd (1904). Strictly speaking, a company cannot, after its formation, ratify a contract made before incorporation: Kelner v. Baxter (1866). What happens is that the promoter makes the contract in his/her own name, and then, when the company is duly formed, he/she assigns the contract to it. He/she may protect him/herself at the time of originally making the contract by inserting a provision that it will be a condition precedent to the validity of the contract that the company duly does adopt it. However, usually through ignorance, people often do purport to enter into a contract as agent for a non-existent company, in other words, for a non-existent principal. The common law rule in such an event is that the agent is personally liable. This is reinforced by statute. The Companies Act 1985 (as amended) states: "Where a contract purports to be made by a company, or by a person as agent for a company, at a time when the company has not been formed, then subject to any agreement to the contrary the contract has effect as one entered into by the person purporting to act for the company or as agent for it, and he is personally liable on the contract accordingly."

Where the Agent is really the Principal
Sometimes, a person will describe himself as an agent when he/she is, in fact, the principal him/herself. Such a situation arose in Gardiner v. Heading (1928). A builder had, in the past, done work for a company, the order for it being signed by Mr Heading, a director. Then, Mr Heading ordered further work, purporting to do so on behalf of the company. The work was duly done and part of the charges were paid by the company. The builder was then told that the work was not for the company at all, but for other principals. It was held that Mr Gardiner was the person who gave the order, and he was the true principal. He was, accordingly, personally liable. By the same token, of course, if the agent is the real principal, he is entitled himself to sue in respect of the contract.

Breach of Warranty of Authority
An agent may be liable to a third party in respect of a contract, if it can be shown that he/she warranted to the third party that he/she had an authority which he/she did not, in fact, possess. There is a general presumption that, if a person purports to act as agent for or on behalf of another, he/she is deemed to represent that he/she is duly authorised. This is, in

© ABE

222

Law of Agency 2: Authority, Liability and Termination

reality, an offshoot of the law of misrepresentation, which we have discussed in a previous chapter. Consequently, if a person is induced to contract, and does, in fact, contract as a result of a representation of agency, then, if he/she suffers loss or damage by reason of the representation being untrue, the purported agent will be liable. For example, in Yonge v. Toynbee (1910), it was held by the Court of Appeal that an agent was liable for breach of warranty of authority after his authority had, unbeknown to him, been terminated by the insanity of his principal. It was, at one time, thought that this liability was a tort, and could arise only if the agent had been negligent. However, this is not so, as Yonge v. Toynbee shows. It stems from the contractual relations of agent and third party. The agent warrants only that he/she has authority to contract for his principal. He/she does not warrant that the principal is solvent, or that he/she will properly perform the contract, or even that he/she will perform at all. Of course, if an agent does not have actual or apparent authority, he/she will normally be personally liable anyway, so the question of imposing an additional head of liability, called "breach of warranty", is not likely to be necessary. However, this will not always be so, and it is, therefore, a "fallback" position for an injured third party to take. For instance, in Starkey v. Bank of England (1903), a stockbroker, acting in good faith, induced the Bank of England to transfer some consols i.e. funds emanating from the Consolidated Fund, to a purchaser, on the strength of a power of attorney which was, in fact, forged. The holder of the consols had a right of action against the bank for restitution. The stockbroker, as agent, was held liable to indemnify the bank against the claim by reason of his breach of warranty of authority. For a more modern application of the rule, see also Nimmo v. Habton Farms (2003).

Liability of Agents in Respect of Money
Normally, if an agent receives money for his/her principal, he/she is not liable to repay it to the third party. However, in certain circumstances he/she may be.  The obvious case is where the agent has contracted personally (by accident or design). In that event, the third party who paid the money looks to the agent as principal and therefore, the agent is liable for any repayment that may be due. If the agent has acted fraudulently or has obtained the money by means of duress, then he/she is liable to repay it.

Liability of Agents for Wrongs they Commit on the Principal's Behalf
Should loss or injury be suffered by a third party as a result of some wrongful act or omission of an agent, then the agent is liable for it to the third party. This applies regardless of whether the agent was acting with the principal's authority or not, and the liability is the same as if the agent were acting purely on his/her own behalf. This form of liability will usually arise as a result of a tort committed by the agent. If, for instance, he/she is negligent, or if he/she deceives the third party, he/she will be liable. Of course, as we have already mentioned, if the agent is also a servant, his/her employer will be vicariously liable if the tort was committed in the course of the agent's employment. However, if he/she is not a servant, or was not in the course of his/her employment, then the agent is personally liable. In Bennett v. Bayes (1860), a distress warrant was signed by an agent. (A distress warrant is a warrant for the seizure of property after a judgment debt has not been paid.) The warrant was issued, but before it was executed, a tender of payment was made by the debtor. The agent wrongfully refused it. HELD: The agent was personally liable for the damage caused by the illegal distress.

© ABE

Law of Agency 2: Authority, Liability and Termination

223

F.

TERMINATION OF AGENCY

By Revoking the Agent's Authority
An agent who is appointed by contract may be appointed under numerous circumstances and conditions. The appointment may be for a specific task (e.g. to sell a house), or for a limited time e.g. for one year only, or it may be indefinite. Consequently, the agency contract may terminate under equally diverse circumstances. As between principal and agent, the termination of the contract serves to revoke the agent's authority. However, as between agent and third party, this may not necessarily be the case. The agent's actual authority will be revoked, but if the third party is unaware of the revocation, then the agent's apparent authority may subsist. The seven circumstances under which an agent's actual authority is revoked are set out below. (a) Agreement Like any other contract, an agency can be terminated by agreement between principal and agent. This is self-evident. (b) Completion If the agency is for a specific task, the authority of the agent automatically ends when that task is completed. For example, in Blackburn v. Scholes (1810), a broker was employed to sell goods for the principal. It was held that, immediately the sale was completed, his/her authority ceased, so he could not subsequently alter the terms of the contract by agreement with the purchaser without new authority from the principal. Likewise in Gillow & Co. v. Lord Aberdare (1892), an estate agent was commissioned either to sell or to lease a house. He succeeded in letting it, but then later negotiated the sale of it. It was held that, having let it, his job was done, and he had no authority to sell. He was not entitled to commission on the sale. (c) Expiration If the agency is for a specific period of time, it is determined when that time has expired. Equally, if it can be reasonably inferred from the circumstances that the agency was for a limited (although not specific) time, then it will lapse after a reasonable time. For instance, in Lawford & Co. v. Harris (1896), a stockbroker was instructed to buy shares subject to fixed limits. It was held that his authority ceased at the end of the current account period. (d) Specified event It may have been agreed, or be inferred, that the agency will cease if a certain event occurs. Then, it will terminate if and when that event does occur. (e) Frustration The frustration of the contract of agency will serve to terminate the authority of the agent. This is likely to occur if the subject-matter of the agency is destroyed e.g. if an estate agent is commissioned to sell a house and, before sale, it is burnt down. Or if something happens which makes either the agency or its objects illegal or impossible e.g. an agent in a foreign country becoming an alien enemy owing to outbreak of war between the UK and that country.

© ABE

224

Law of Agency 2: Authority, Liability and Termination

(f)

Death/winding-up The authority of an agent, is, normally, terminated by the death or insanity of either the principal or the agent, or the bankruptcy of either. (Re insanity, see Yonge v. Toynbee (1910). However, under the Enduring Powers of Attorney Act 1985 (as amended by the Mental Health Act 2005), it is now possible to create an enduring power of attorney, which will not be brought to an end by the donor's mental incapacity.) In the case where either party is a limited company, the winding-up of the company has the same effect.

(g)

Revocation Lastly, if either the principal or the agent revokes the agency or renounces it, whether or not the act of so doing is in breach of the contract, the agent's authority will be revoked. If it is done in breach of contract, then the innocent party, principal or agent will have the right to seek damages for breach of contract. However, this will not affect the fact that the authority of the agent is terminated. In certain circumstances, the innocent party may also be able to get an order of specific performance from the court, compelling the guilty party to carry out the contract in accordance with its terms; or, if relevant, an injunction to prevent the guilty party from revoking the agency. However, neither of these equitable remedies will be granted if the relationship between principal and agent is a personal one, that is, if the character, skill, experience, etc. of the agent is an essential element of the relationship.

Irrevocable Agency
An agency contract may be irrevocable, either by agreement or by implication, as a result of the circumstances. However, this is not straightforward. The mere fact that the parties have agreed that the agency shall be irrevocable does not, of itself, make it so. There is nothing to prevent one party renouncing in breach of the contract, notwithstanding that he/she has agreed not to. Something more is necessary to render the contract legally irrevocable. (a) Appointment by deed or valuable consideration If the authority is given to the agent by deed, or for valuable consideration, for the purpose of effecting a security, or for protecting an interest of the agent, then this authority cannot be withdrawn while he/she is at risk as a result of the agency duties. Two examples may clarify this. In Gausson v. Morton (1830), the principal owed money to the agent. So, he gave him a power of attorney (a deed) to sell certain land and deduct the amount of the debt from the purchase money. HELD: The power of attorney was irrevocable. However, in Smart v. Sandars (1848), the agent was a factor, and the principal consigned goods to him for sale. The agent advanced money to the principal on the credit of the goods. Later, the principal cancelled his instructions for his agent to sell. HELD: As the authority of the agent was not given for valuable consideration, the principal was permitted to revoke the authority. (Note that, had the factor's authority been given under seal, the outcome would have been different.) (b) Powers of Attorney Act 1971 (as amended by the Mental Health Act 2005) By virtue of the Powers of Attorney Act 1971, Section 4, in certain circumstances (see below), such a power may be expressed to be irrevocable, and in this case it will be so. This section is, in fact, merely codifying the common law rule outlined above, but the difference is that, under the Act, the power must be actually expressed to be irrevocable, whereas at common law this is not necessary. The relevant circumstances under the Act are where the power has been given to secure a proprietary interest of the recipient (the donee), or to secure the performance

© ABE

Law of Agency 2: Authority, Liability and Termination

225

of an obligation owed to the donee by the donor. In either of such events, the power cannot be revoked while the interest or the obligation is still undischarged, without the consent of the donee. Nor can it be revoked as a result of the death, insanity or bankruptcy of the donor, or if it is a company, by its winding-up. In other words, the Act is designed to ensure that, where the agent obtains a power of attorney which is stated to be irrevocable, in good faith and on the understanding that its purpose is to give the agent security for some debt or other interest, the principal cannot arbitrarily cancel it. (c) Personal liability to a third party Other instances of irrevocability of agency authority are where the agent incurs a personal liability to a third party in pursuance of agency duties. The principal will not be permitted to revoke the authority if, by so doing, he/she will destroy the agent's right to indemnity or reimbursement from the principal. This is really only common sense. If, in reliance on his/her legal right to be reimbursed or indemnified by the principal, the agent incurs a liability, it would, plainly, be most unjust to allow the principal to escape from the bargain by withdrawing the agent's authority.

Effect of Revocation on Third Parties
As we said earlier, a revocation serves to terminate the actual authority of the agent, whether that revocation is or is not in breach of contract. The only exceptions are those mentioned above. However, the withdrawal of actual authority will not necessarily destroy the apparent authority of the agent. Nor will his/her usual authority necessarily be removed. The principle involved is that, if a principal has held out to third parties that his/her agent has authority to do certain things, then the principal will not be allowed to deny that the agent was so authorised to third parties who have dealt with the agent in good faith and without knowledge of his/her lack of authority. The holding out of the agent's authority may be by words or by conduct, or it may be by permitting some other person to so hold out, without dissenting. So, if the agent's authority is withdrawn, it is up to the principal to notify all third parties who may be affected of this fact. If he/she neglects to do so, he/she will be bound by the acts of his/her former agents. This, in principle, is no different from the situation where the agent is acting under apparent authority in other circumstances – where, for example, he/she has exceeded his/her actual authority, but it becomes more difficult where the authority of the agent is revoked owing to the death, bankruptcy or insanity of the principal. In the case of death or bankruptcy, the principal is in no position to notify third parties. As a result, the doctrine of apparent authority does not apply. In Blades v. Free (1829), a man who was living with a woman held out to certain tradesmen that she had authority to pledge his credit. She duly did so and, for some years, she purchased goods in his name. Then he went abroad, where he died. The woman continued to run up bills for his account. HELD: The man's estate was not liable for the debts incurred to tradesmen who were not aware of his death. Logically, the same should apply in the event of the insanity of the principal, but it appears that this is not so. In Drew v. Nunn (1879), a husband held out that his wife had authority to pledge his credit (see the previous chapter, Section A). He subsequently went insane. A tradesman, relying on the authority originally given by the husband, and without knowledge of his insanity, supplied goods to the wife on credit. HELD: The husband was liable for the price. Of course, in all these instances, the innocent third party is not totally without redress. Provided the agent was aware at the time he/she made the contract that his/her authority had been revoked, for whatever reason, the third party will have grounds to sue the agent for

© ABE

226

Law of Agency 2: Authority, Liability and Termination

breach of warranty of authority. The effect will be the same: he/she will get his/her money, indirectly by way of damages instead of directly by way of debt. In the case of powers of attorney, Section 5 of the Powers of Attorney Act 1971 (as amended by the Mental Health Act 2005) provides that, where a power is revoked, any person dealing with the attorney without knowledge of the revocation is protected, in the sense that the transaction is deemed to be valid to the same extent as if the power were still in existence. Likewise, the attorney is protected if he/she is not aware of the revocation. He/she incurs no liability to the donor of the power (the principal), nor to any other person. For an example of:   a case illustrating the application of compensation principles, see Moore v. Piretta PTA Ltd (1999); a claimant receiving Damages greater than the normal measure for breach of warranty of authority, see Habton Farms (2003) (supra).

See also Turner v. Steinhoff Furniture Ltd (2006); Lonsdale v. Howard & Hallam (Ltd) (2007); McQuillan v. McCormick (2010).

© ABE

227

Chapter 10 Employment Law
Contents
A. Distinction Between Independent Contractor and Employee Definitions Control Test Integration Test The Multiple or Economic Reality Test

Page
229 229 230 230 231

B.

Other Categories Loaned Servants Actors and Artistes Doctors and Nurses Labouring Teams Agency Workers Apprentices and Trainees

236 236 237 237 237 237 238

C.

Consequences of Employment Status Employment Protection Rights Common Law Employment Terms The Statutory Duty to Protect Employees against Risk to Health, Safety and Welfare Entitlement to Training Entitlement to Welfare Benefits Liability for Taxation Vicarious Liability Protection in the Event of Insolvent Liquidation

238 238 238 240 241 241 241 242 242

D.

Contract of Employment Employment and Self-employment Relations between Employer and Employee Identifying the Terms of the Contract Implied Terms

242 242 243 243 244

(Continued over)

© ABE

228

Employment Law

E.

Other Terms and Conditions Protection of Wages Guarantee Payments Rights Not to Suffer Detriment in Employment Time Off Work Suspension From Work Maternity and Other Parental and Family Rights Holidays Paternity Leave Notice

246 246 247 248 249 250 250 252 252 252

© ABE

Employment Law

229

A. DISTINCTION BETWEEN INDEPENDENT CONTRACTOR AND EMPLOYEE
Definitions
(a) The difference between a contract of service and a contract for services The basis of the employer/employee relationship is the contract of employment, which in general is an agreement whereby an employee agrees to provide work or a service in return for remuneration by the employer. The contract of employment is a contract of service and not for services.  Under a contract of service a person places his/her labour at the disposal of another and a relationship is constituted which, in past days, was called that of master and servant. In the contract for services, on the other hand, a person who operates an independent business agrees to carry out a task for another and the relationship is that of employer and independent contractor.

Amar's chauffeur is her employee, but a taxi-driver is an independent contractor. If Ben wants to build a garage on his land, he has two courses open: he can employ a bricklayer and other tradespeople under contracts of employment or he can entrust the work to a builder as an independent contractor. (b) Employment by a corporation The majority of employers in the UK are corporations, whether a corporation set up by statute, e.g. a limited company under the Companies Acts, or by charter, e.g. the British Broadcasting Corporation. Try to remember the following points which will help you to identify who the employer is.  A corporation is a legal entity which is totally separate from the persons who actually form the company. Therefore, no matter which particular individual gives orders or carries out acts on behalf of the company, it is the company which is responsible. A director of a company, even though he/she may be one of the owners of the company, is not the employer. The company is the employer. A director is merely acting on behalf of the company. A manager, no matter how high in the managerial hierarchy, is not the employer. He/she may well have the authority to act for the employer, or even as the employer in certain situations. Because a corporation is an abstract legal entity, it must carry out its actions through various individuals; in practical terms it can do nothing of itself. Therefore, in many cases, a manager or director, because of his/her actions, may appear to the employees to be the employer. Nevertheless, the corporation is the employer, and normally must accept ultimate responsibility for the actions of its delegates.

It is important to distinguish between employees and independent contractors, although the distinction is sometimes hard to draw. Over the years, the courts have formulated various tests for deciding between employee and independent contractor.

© ABE

230

Employment Law

Control Test
This has been the test perhaps most frequently relied on by the courts, and is one of the main factors considered. Control means that the employer has the right to tell the other party to the contract not only "what" to do but "how" to do it. In other words, he/she controls not only the "ends" but also the "means". The general rule is that, wherever this type of control exists, the person thus controlled is an employee. In our present society, however, the control test has been shown to have certain deficiencies, and it is doubtful nowadays whether control or lack of control indicates conclusively whether a contract of employment exists. Industrial society today is totally different from the society which existed when the control test was first formulated, since nowadays the employer very rarely has the exact skill and knowledge of his/her employees. It is very difficult to say that the hospital authorities may control the actions of a doctor, or a local authority the actions of a surveyor. This was shown very clearly in Cassidy v. Minister of Health (1951). This case solved many of the problems relating to skilled people. Although the employer could not control the actions of the doctor in the strict sense, the doctors and nurses concerned were permanently employed and salaried members of the staff, and were subject to the standing orders of the employers; also the employers were in a position to make rules concerning the organisation of the doctor's work. For these reasons, he was an employee, despite the lack of control in the old sense. The problem of control in the case of skilled persons was also illustrated in Mersey Docks and Harbour Board v. Coggins & Griffiths (Liverpool) Ltd (1947) where the crane driver stated "I take no orders from anybody" (see later for further discussion of this case).

Integration Test
This suggests that the individual is "part and parcel" of the employer's organisation. This idea was, to some extent, suggested in Cassidy v. Minister of Health (1951), where, as has already been said, the medical staff were part of the permanent establishment of the hospital and subject to the standing orders of the hospital. As a result, Professor Kahn-Freund, in an article in the Modern Law Review, suggested that the decisive test might be "Did the alleged servant form part of the alleged master's organisation?". In Stevenson Jordan & Harrison v. MacDonald & Evans Ltd (1952), Lord Denning developed this test as follows: "Under a contract of service, a man is employed as part of the business and his work is done as an integral part of the business; whereas under a contract for services, his work, although done for the business, is not integrated into it, but is only an accessory to it." In Whittaker v. Minister of Pensions (1967), a trapeze artist (who might normally have been held to be an independent contractor) was held to be an employee, since, in addition to performing on the trapeze, she had to act as usherette, sell programmes, put out the seats, and generally help in the running of the circus: "[She] had to carry out her contractual duties as an integral part of the business of the company."

© ABE

Employment Law

231

The Multiple or Economic Reality Test
This is the test which is applied by the courts today. It is a test which seeks to look at the economic reality underpinning the employment relationship. This test was established and subsequently applied by MacKenna J in Ready Mixed Concrete v. Minister of Pensions & National Insurance (1968) where MacKenna J stated that: "A contract of service exists if these three conditions are fulfilled. (a) ’The servant agrees that, in consideration of wage or other remuneration, he will provide his own work and skill in the performance of some service for his master.’ It should be noted that MacKenna J also went on to say that the ’freedom to do a job either by one's own hands or by another's is inconsistent with a contract of service, though a limited or occasional power of delegation may not be’ – i.e. he took account of the situation where a person would need a colleague to stand in for them because they were sick, for example. (b) ’He agrees, expressly or impliedly, that, in the performance of that service, he will be subject to the other's control to a sufficient degree to make that other master.’ It should be noted that MacKenna J also said that ’control includes the power of deciding the thing to be done, the way in which it shall be done, the means to be employed in doing it, the time when and the place where it shall be done. All these aspects of control must be considered in deciding whether the right exists in a sufficient degree to make one party the master and the other his servant. The right need not be unrestricted’. (c) ’The other provisions of the contract are consistent with it being a contract of service.’ "

Leading on from this, the primary factors consistent with the existence of a contract of service are:      mutuality of obligation – i.e. the employer is under an obligation to offer the worker work, and the worker is under an equivalent obligation to accept it the worker is under no financial risk the worker is not responsible for paying his own tax and national insurance the worker is provided with all the tools and equipment that he needs for his work the worker is not responsible for hiring his own substitute and/or another worker to assist him with the completion of his work.

The following two judgments are very helpful when trying to determine whether or not a worker satisfies the second and third conditions of MacKenna J's multiple test. The judgment of Mummery LJ in Hall v. Lorimer (1992) when it was heard in the Court of Appeal in; and that of Cooke J in Market Investigations v. Minister of Social Security (1969) when it was heard in the Queens Bench Division of the High Court. The multiple test was further developed by Cooke J in Market Investigations v. Minister of Social Security (1969) where Cooke J stated that: "The fundamental test to be applied is this: 'Is the person who has engaged himself to perform these services performing them as a person in business on his own account?' If the answer to that question is 'Yes', then the contract is a contract for services. If the answer is 'No', then the contract is a contract of service. No exhaustive list has been compiled and perhaps no exhaustive list can be compiled of the considerations which are relevant in determining that question, nor can strict rules be laid down as to the relative weight which the various considerations should carry in particular cases.

© ABE

232

Employment Law

The most that can be said is that control will no doubt always have to be considered, although it can no longer be regarded as the sole determining factor; and that factors which may be of importance are such matters as: (i) (ii) whether the man performing the services provides his own equipment, whether he hires his own helpers, – the applicant's in Ready Mixed Concrete and Express & Echo Publications Ltd v. Tanton (1999) failed on this, amongst other things, what degree of financial risk he takes, what degree of responsibility for investment and management he has, and whether and how far he has an opportunity of profiting from sound management in the performance of his task."

(iii) (iv) (v)

Make use of the points above when determining whether an applicant in a scenario question passes the second and third condition of the multiple test as established by MacKenna J in Ready Mixed Concrete. Moreover, in Hall v. Lorimer (1992), Justice Mummery observed, in relation to Cooke J's test (Cooke J had given more guidance on the things that should be considered when determining whether or not an applicant will pass MacKenna J's multiple test) that: "In order to decide whether a person carries on business on his own account it is necessary to consider many different aspects of that person's work activity. This is not a mechanical exercise of running through items on a checklist to see whether they are present in, or absent from, a given situation. The object of the exercise is to paint a picture from the accumulation of detail. The overall effect can only be appreciated by standing back from the detailed picture which has been painted, by viewing it from a distance and by making an informed, considered, qualitative appreciation of the whole. It is a matter of evaluation of the overall effect of the detail, which is not necessarily the same as the sum total of the individual details. Not all details are of equal weight or importance in any given situation. The details may also vary in importance from one situation to another... The decided cases give clear guidance in identifying the detailed elements or aspects of a person's work which should be examined for this purpose. There is no complete exhaustive list of relevant elements." The list includes   The express or implied rights and duties of the parties The degree of control exercised over the person doing the work – link this to Mackenna J's second condition where he stated that: "control includes the power of deciding the thing to be done, the way in which it shall be done, the means to be employed in doing it, the time when and the place where it shall be done. All these aspects of control must be considered in deciding whether the right exists in a sufficient degree to make one party the master and the other his servant. The right need not be unrestricted. "What matters is lawful authority to command so far as there is scope for it. And there must always be some room for it, if only in incidental or collateral matters." Whether the person doing the work provides his own equipment and the nature of the equipment involved in the work – link to Market Investigations, and Ready Mixed Concrete Whether the person doing the work hires any staff to help him – link to Ready Mixed Concrete and Tanton The degree of financial risk that he takes, for example, as a result of delays in the performance of the services agreed (link to Ready Mixed Concrete and there being a delay in the delivering of concrete)

 

© ABE

Employment Law

233

  

The degree of responsibility for investment and management How far the person providing the services has an opportunity to profit from sound management in the performance of his task It may be relevant to consider the understanding or intentions of the parties – link to the need to determine whether the “label” given to an employment relationship by the parties is a genuine one. If an applicant is genuinely labelled as self-employed, he will fail the third condition of MacKenna's multiple test Whether the person performing the services has set up a business-like organisation of his own – the Hall v. Lorimer problem The degree of continuity in the relationship between the person performing the services and the person for whom he performs them – mutuality of obligation can be implied in those cases where there is a series of engagements with the same employer. See Nethermere (St Neots) Ltd v. Taverna and Gardiner (1984) and Market Investigations. How many engagements he performs and whether they are performed mainly for one person or for a number of different people. It may also be relevant to ask whether the person performing the services is accessory to the business of the person to whom the services are provided or is "part and parcel" of the latter's organisation" – compare and contrast Hall v. Lorimer and Market Investigations. The applicant in Hall failed the multiple test whereas the applicant in Market Investigations passed it.

 

Again use the points above to determine whether or not an applicant passes the second and third conditions of MacKenna J's multiple test. Application of the multiple test The multiple test was applied by the Court of Appeal in the case of Express & Echo Publications Ltd v. Tanton (1999) and the applicant failed all three conditions of MacKenna's multiple test, the court stating that: "it is necessary for a contract of employment to contain an obligation on the part of the employee to provide his or her services personally…. Where a person who works for another is not required to provide his or services personally, as a matter of law the employment relationship between the worker and the person for whom he and she works is not that of employee and employer, for it is wholly inconsistent with a contract of employment, and the only conclusion that can be properly reached in such cases is that the agreement is a contract for services." Mr Tanton failed the first two conditions of the multiple test because he could substitute himself if he was “unable or unwilling” to work and he was also held responsible for hiring his own substitute. He also failed the third condition because, among other things, he was subject to financial risk when he was sick, because he had to pay somebody else to do his work for him. In Market Investigations Ltd v. Minister of Social Security (1969), a market research interviewer worked under a succession of fixed-term contracts requiring her to conduct interviews for a company in accordance with interview instructions issued by the company. There was no provision for holiday or sick pay and she was free to work for other employers while working for Market Investigations Ltd, who contended that she was not their employee. It was held that she was an employee. The reasons for this included the fact that, in the event she was unable to work, she could only substitute herself with another of their market researchers who was hired and paid for by them. The company did have some control over her work because she was required to conduct standard interviews within a specified time period, even though she had no specified hours of work. Moreover, she did not provide her own tools and took no financial risk. She

© ABE

234

Employment Law

was, therefore, not “in business on her own account” and was an employee and not an independent contractor. The court also emphasised that there was “no exhaustive test complied, or strict rules laid down” as to factors which identified a contract of service. Note the implied mutuality of obligation here, with a series of assignments over a period of time with the same employer, Market Investigations. She, therefore, passed all three conditions of the multiple test. Leading on from the above, it was also held by the Court of Appeal in the case of Nethermere (St Neots) Ltd v. Taverna and Gardiner (1984) that mutuality of obligation is implied from the length of a working arrangement. In this case, outworkers making garments at home on a piecework basis were held to be employees of the garment manufacturers, largely because of the regular long-standing arrangement, which showed the necessary mutuality of obligations to do and be provided with the work. In MacFarlane v. Glasgow City Council (2001), the applicants also passed all three conditions of the multiple test and were held to be employees. The points of issue in this case revolved around a Mrs MacFarlane, who had previously worked as gymnastic instructor for Glasgow City Council on a casual basis when, in 1992, the City Council attempted to regularise her employment relationship by sending her a document setting her terms of engagement. She declined to sign the document and in 1998 claimed unfair dismissal. The preliminary matter was whether she had been engaged under contracts of service or contracts for service. Some of the case facts found by the Employment Tribunal included the following.        The City Council, in conjunction with the sports governing body, specified the courses which were to be taught. The City Council provided the venue, equipment and support staff to set up the equipment. Mrs MacFarlane was required to wear a uniform provided by the City Council. The City Council monitored her work. Timesheets were completed and payment was made on the basis of the number of hours worked. Mrs MacFarlane was also required to have their own public liability insurance. There was no entitlement to sick pay, holiday pay or pensions.

The Employment Tribunal, on hearing the case, concluded that she was not an employee and hence her claim for unfair dismissal failed. However, on appeal to the Employment Appeal Tribunal (EAT), her claim succeeded. The most important factor in the EAT's view was that in the event that she was unable to attend work, a substitute had to be arranged but only from the register of coaches maintained by the City Council to cover her classes, i.e. she only had a limited right of delegation, they exerted control over who did her work instead and she was under no financial risk if she could not attend work herself because she was unwell. She, therefore, passed all three conditions of the multiple test and her unfair dismissal claim succeeded. For a contract of employment to exist there must be “mutuality of obligation” This links in with what has been said above and meets the third condition of the multiple test. In Carmichael v. National Power Plc (2000), an arrangement under which tour guides worked at a power station, following an exchange of letters referring to "employment" and training, was not regarded as telling the whole story. It was open to the Employment Tribunal to find that the parties did not intend the letters to be the sole record of their agreement, but intended that it should be contained partly by those letters, partly in oral exchanges at interview or elsewhere and partly left to evolve by conduct as time went on: Lord Hoffmann at (1999) ICR 1226, 1234. Although the words "casual as required" in the documentation

© ABE

Employment Law

235

were thought by the House of Lords not to impose any mutual obligation, in any event the Employment Tribunal was entitled to find, as a fact from these other sources, that there was no mutual obligation – in this case upon the company to provide work, and the tour guides to do it. Accordingly, there was no contract of employment. Other factors may also be looked at, such as the employer's right to the exclusive services of the individual; sickness pay; payment of national insurance contributions and income tax; hours of work, provision of equipment and so on. It is unlikely that any of these factors in isolation would be conclusive and the courts tend to look at the whole agreement and all the relevant factors when reaching their decision. The “label” given to an employment relationship by the parties is not conclusive When all the facts have been gathered, it is then necessary to stand back and look at the bigger picture. If the case is borderline, it is then and only then, that the intentions of the parties are considered. Where there is mutual intention for a contract of service or for a contract for services, that will determine the status of the worker. In Massey v. Crown Life Insurance Co. (1978), giving the leading judgment of the Court, Lord Denning M.R. stated that: "The law, as I see it, is this: If the true relationship of the parties is that of master and servant under a contract of service, the parties cannot alter the truth of that relationship by putting a different label upon it…On the other hand, if their relationship is ambiguous and is capable of being one or the other, then the parties can remove that ambiguity, by the very agreement itself which they make with one another. The agreement itself then becomes the best material from which to gather the true relationship between them." Moreover, Lord Justice Lawton commented similarly. He stated: "It is clearly established that the parties cannot change a status merely by putting a new label on it. But if in all the circumstances of the case, including the terms of the agreement, it is manifest that there was an intention to change status, then in my judgment there is no reason why the parties should not be allowed to make the change." In Massey v. Crown Life Insurance (1978), Mr Massey was a professional man who was a Branch Manager of Crown Life Insurance. Following consultations with his accountant, he made a perfectly genuine agreement with his employer to change his employment status from "employee" to "self-employed independent contractor", believing that this was for his long-term financial benefit. On his dismissal by his employers, he alleged that he was still an "employee" for the purpose of claiming protection against unfair dismissal. His claim failed. In the words of Lord Denning MR, in relation to Mr Massey reaping the financial benefits of self-employed status, namely avoiding tax deductions and getting his pension contributions returned: "I do not see that he can come along afterwards and say it is something else in order to claim that he has been unfairly dismissed. Having made his bed as being selfemployed, he must lie on it. He is not under a contract of service." Perhaps a different decision would have been made in Massey if he hadn't been a "professional man" who, having taken independent expert advice, had made a declaration which he, at that time, genuinely believed would be to his benefit. This was in direct contrast to the builder's labourer in Ferguson v. John Dawson and Partners (Contractors) Ltd (1976) [discussed below], who was unadvised and could not be said to have consciously chosen to be a self-employed contractor, with a detailed knowledge of the legal and economic consequences involved. Leading on from the above, the court has stated that it must look to the realities of the situation and not the form alone, particularly not the label which the parties put upon a

© ABE

236

Employment Law

worker. In Ferguson v. John Dawson and Partners (Contractors) Ltd (1976), Mr Ferguson successfully sued his employer for breach of the implied duty to protect him against reasonably foreseeable risks to his health and safety. Because the court found that, irrespective of the label put on his employment relationship by the respondents (of a selfemployed labour-only subcontractor), he was, in reality, their employee. Consequently, he was entitled to sue for damages, having suffered personal injury as a direct result of their failing to have an adequate guardrail on the roof of their construction site. (Ferguson fell off the roof due to this.) Furthermore, when the case of Lane v. Shire Roofing Co (Oxford) Ltd (1995) was being heard in the Court of Appeal, Henry L.J. stated, in relation to Mr Lane's employment status and health and safety at work, generally, that: "When it comes to the question of safety at work, there is a real public interest in recognising the employer/employee relationship when it exists, because of the responsibilities that the common law and statutes impose." See also Bacica v. Muir (2006).

B. OTHER CATEGORIES
In most cases, using one of the tests discussed already, it is possible to see whether an individual is an employee or an independent contractor. Alternatively, one company may use a second company to carry out certain work, e.g. the firm which brings in a building contractor to carry out certain building work, where it is obvious that this second firm is an independent contractor. Certain problem areas have arisen, however, which we must look at in more detail, since the specific details decide what position these people hold.

Loaned Servants
It may be difficult, where one employer lends an employee to another employer, to decide who is acting as the employer for certain purposes. It is generally thought that, where a person is loaned together with his/her equipment, he/she is more likely to continue as the employee of the original employer, particularly for purposes of vicarious liability. Also, there would have to be extremely strong evidence to show that a loaned employee was, for all purposes, the employee of the second employer. The main case in this area is Mersey Docks and Harbour Board v. Coggins & Griffiths (Liverpool) Ltd (1947) and you must make sure that you understand and learn it. Here, a crane-driver was lent, together with his equipment, to Coggins & Griffiths. The driver caused injury to a third party through his negligence, and it had to be decided which employer was vicariously liable. Coggins & Griffiths could tell the crane-driver which loads to move, and where to move them, but had no rights over his method of working. As we saw earlier, the crane-driver stated that no one could tell him how to operate his crane. In the contract of hire between the companies, it was stated that the driver should, for all purposes, be the servant of Coggins & Griffiths. Nevertheless, the court held that he remained the employee of the Board. They retained overall control of the driver. It was also stated that an employee could not be made the servant of another person merely by stating so in a contract (of hire in this case). This was for the courts to decide on the facts of the case. N.B. Joint liability between employing parties has now been settled in the case of Viasystems Ltd v. Thermal transfer (Northern) Ltd (2005).

© ABE

Employment Law

237

Actors and Artistes
While the control test was the sole criterion for determining who was an employee, it was difficult to bring people who provide specialised services into the ambit of contracts of employment, because no employer can control, as such, an artiste's performance. Such a person is the possessor of some innate skill, which only he/she can control. However, in Stagecraft Ltd v. Ministry of National Insurance (1952), this problem was dealt with by the Court of Session. Here, a variety comedian was engaged by the claimants and agreed to take part in their productions for six months. He was to act in certain sketches as the claimants required, attend rehearsals, play all parts assigned to him, obey the directions of the stage manager, and was liable to be transferred to other theatres controlled by the claimants. He was paid a weekly salary. The court stated that this was obviously a contract of employment, because the employer could exercise such strict control over all the incidentals of employment. On the other hand, leading actors and singers and other "stars" who agree to do a particular performance for a fixed fee, are probably independent contractors.

Doctors and Nurses
As we saw in Cassidy v. Minister of Health (1951), it has been decided by the courts that the medical staff of a hospital have, in general, contracts of employment with the hospital authorities. However, no case has yet decided the position of the consultant, although Lord Denning suggested in Cassidy's case that they ought to be treated in the same way as the rest of the medical staff. The answer may depend on the type of agreement actually drawn up between the consultants and the hospital. Lord Denning has said, in his view, servants or not, in a vicarious liability situation the hospital would still be liable for them.

Labouring Teams
This is a more modern problem which has arisen in the construction industry. There are several variations in the way in which a team of labourers may be employed by the employer. Some will very obviously be employees, e.g. where the supervisor, who is an employee, selects a particular group of people to work under him. On the other hand, some will be independent contractors, e.g. the labour-only sub-contractors, where the workers are referred to as self-employed, or where they are employees of a team leader who acts as an independent contractor to various construction companies.

Agency Workers
As mentioned above, there is a problem with agency workers who frequently do not have an obligation to accept work offered by an agency. There is no doubt that they are not employees of the organisation with which they are placed, because of the rules of privity of contract outlined much earlier. The contract is between the agency and the organisation. The contract between the worker and the agency has frequently been seen as one which is not employment, as in Wickens v. Champion Employment (1984), but in two cases this position has been reviewed. In McMeechan v. Secretary of State for Employment (1997), the House of Lords ruled that lack of mutuality is only another factor and thus, on the balance of all the factors, the worker was an employee; and in Clark v. Oxfordshire Health Authority (1996), nurses retained on a "bank", i.e. agency workers, were, in fact, employees, according to the Employment Appeal Tribunal. The issue of control may mean that the agency worker is employed by the client company, and the longer the exclusive relationship between him/her and the client company exists, the more likely it becomes that an employment relationship exists. See Franks v. Reuters Ltd

© ABE

238

Employment Law

(2003), Dacas v. Brook Street Bureau (UK) Ltd (2004) and Cable & Wireless plc v. Muscat (2006). The Conduct of Employment Agencies and Employment Businesses Regulations 2003 now affect the operation of these bodies. At the end of 2008, the Agency Workers Directive was agreed. This Directive provides agency workers with the right to equal treatment in relation to basic working and employment conditions with employees of the end-user after a 12-week qualifying period. The Government initially planned to introduce UK regulations to implement the Directive in 2010, but it has bowed to pressure to use the full permissible implementation period, and has pushed back implementation until October 2011.

Apprentices and Trainees
The Employment Rights Act 1996 makes specific reference to apprentices and states that they are to be classed as employees (see Flett v. Matheson (2006)). However, other persons employed on a training contract are often considered not to be employees, because the nature of the contract is to learn, not to provide labour: in Wynn v. Wiltshire Police Authority (1978) it was held that a police cadet was not an employee. See also the case of Edmunds v. Lawson (2000) in relation to the status of trainee Barristers..

C. CONSEQUENCES OF EMPLOYMENT STATUS
The individual has to be placed in the correct category if we are to ascertain exactly what his/her rights and duties are. The individual's exact status will be important in all the following areas.

Employment Protection Rights
Only employees have the following statutory rights, assuming that, in redundancy and unfair dismissal cases, they have accrued the qualifying period of continuous service (two year's and one year respectively).   Not to be unfairly dismissed by his employer: Section 94(1), Employment Rights Act 1996: Massey v. Crown Life Co. (1978). To receive a written statement of employment particulars within two months of the commencement of employment: Section 1, Employment Rights Act 1996 (as amended): Carmichael v. National Power Plc (2000). In this case, tour guides' claim that they were entitled to a written statement of employment particulars was struck out by the House of Lords because one of the essential pre-requisites for existence of a contract of employment was missing. There was no mutuality of obligation, i.e. their employer was not under an obligation to provide them with work and they were not under an equivalent obligation to do the work offered. Consequently, they were held not to be entitled to a Section 1 statement, as this right only belongs to “employees”. To receive a minimum period of notice of his/her employer's intention to terminate his/her employment: Section 86(1), Employment Rights Act 1996. To receive a redundancy payment: Under Section 155 of the Employment Rights Act 1996, “employees” are entitled to a redundancy payment if they have served the qualifying period with their employer of two years continuous service.

 

Common Law Employment Terms
The implied rights and duties which apply in the employer/employee relationship under a contract of service do not apply to the same degree to a contract for services. At common

© ABE

Employment Law

239

law, certain terms are implied into every contract of employment, but not into any other form of employment relationship. For example, the implied duty to maintain trust and confidence, in the words of Kilner Brown J in the case of Robinson v. Crompton Parkinson Ltd ([1978): "In a contract of employment, and in conditions of employment, there has to be mutual trust and confidence between master and servant…..Consequently says of his employer [or employee], 'I claim that you have broken your contract because you have clearly shown you have no confidence in me, and you have behaved in a way which is contrary to that mutual trust which ought to exist between master and servant', he is entitled in those circumstances,…. to say that there is conduct which amounts to a repudiation [termination] of the contract…." Leading on from this, the breach of this implied common law duty is often grounds for constructive dismissal, under Section 95(1)(c) of the Employment Rights Act 1996, on the grounds that the employer's conduct amounts to a fundamental breach of the employee's contract of employment and, if the employee concerned has accrued one year’s continuous employment at his effective date of termination is the basis for an unfair dismissal claim, as demonstrated by Mr Robinson's successful claim. In United Bank Ltd v. Akhtar (1989), a junior bank employee, whose contract contained an express mobility clause, was instructed to move from Leeds to the Birmingham offices of his employer, at only six days notice and with no financial assistance. He refused, partly due to family circumstances, left and claimed constructive dismissal, owing to his employer's breach, inter alia, of their implied duty of mutual trust and confidence. His case was successful, despite the express mobility clause, the Employment Appeal Tribunal (EAT) holding that it was necessary to imply into the contract a requirement that the employer should not exercise a term in such a way that the employee was unable to comply with it, and, more importantly, there was an “overriding requirement” of mutual trust and confidence, which was independent of, and in addition to, the literal interpretation of the express terms of the contract. This, in effect, means that, given that there is an implied term of mutual trust and confidence in the employment contract, the employer must exercise the contractual right reasonably, otherwise he will be in breach of the implied term. See also: Bateman v. ASDA Stores; RTS Flexible Systems Ltd v. Muller (2010). All employers also have an implied duty to protect their employees against reasonably foreseeable risks to their health and safety, which is arguably the most important implied duty owed by an employer. The common law obligations of an employer bear a strong resemblance to the Section 2(2), Health and Safety at Work Act 1974 employer duties in relation to his own employees. The common law duty owed by an employer to his employees encompasses the obligation to provide the following. (a) Safe plant & appliances This means that all equipment, tools, machinery, plant etc. where the employee works shall be reasonably safe for work. In Bradford v. Robinson Rentals (1967), the plaintiff was instructed by the defendant, his employer, to travel several hundred miles from Exeter to Bedford, a 500 mile round trip, in a van with no heater in extremely bitter weather (in January 1963). The weather was particularly cold and the Automobile Association were advising motorists not to travel unless it was necessary. The plaintiff protested but was again told to go: both vans were unheated, he had to drive with the window open to keep the windscreen clear and, on several occasions, he had to get out to remove snowdrifts or top up a faulty radiator. The plaintiff suffered frostbite and the defendants were held liable: it was reasonably foreseeable, in the circumstances, that the plaintiff would suffer some cold-related

© ABE

240

Employment Law

injury, so they were liable for his frostbite, even though that particular condition is very rare in England: per Rees J. (b) A safe system of work The employer must ensure that there is a safe system of work, commensurate with the risk involved in undertaking the job. Consideration must be given to all factors which concern the manner in which the employee's work is done, or will be done: the layout; the systems currently in place; the training and supervision; the provision of warnings, protective clothing, safety equipment, special instructions and so forth are all relevant. This will also include ensuring that there are sufficient numbers of employees to carry out the work without danger: Lane v. Shire Roofing (Oxford) Ltd (1995) and Ferguson v. John Dawson & Partners (Contractors) Ltd (1976). (c) Reasonably competent fellow employees If an employer engages an incompetent person whose actions injure another employee, the employer will be liable for failing to take reasonable care. If the employer knows that an employee has tendencies for violent horseplay or actual assault, he has a duty to take precautions to ensure that his employees are not injured: Hudson v. Ridge Manufacturing Co. Ltd (1957).

The Statutory Duty to Protect Employees against Risk to Health, Safety and Welfare
An employer has a legal responsibility to create a safe and healthy working environment for all his/her "employees", so far as is reasonably practicable. The general principles are set out in Section 2 of the Health & Safety at Work Act 1974 and are made specific in the Management of Health & Safety at Work Regulations 1999 [reg. 3(1)], and in a number of other pieces of Safety legislation. In addition, the Health & Safety Executive (HSE) produces Guidance and Codes of Practice for employers, regarding Health & Safety at Work. In accordance with Section 2(1) of the Health and Safety at Work Act 1974, it is the duty of every "employer to ensure, so far as is reasonably practicable, the health, safety and welfare at work of all his employees". Section 2(2) of the 1974 Act goes on to identify the matters to which this general duty extends in the following terms. Under Section 2(2), the general duty of employers under Section 2(1) “to ensure, so far as is reasonably practicable, the health, safety and welfare at work of all his employees" extends to: (a) the provision of such information, instruction, training and supervision as is necessary to ensure, so far as is reasonably practicable, the health and safety at work of his employees; making arrangements for ensuring, so far as is reasonably practicable, safety and absence of risks to health in connection with the use, handling, storage and transport of articles and substances; the provision of such information, instruction, training and supervision as is necessary to ensure, so far as is reasonably practicable, the health and safety at work of his employees; so far as is reasonably practicable as regards any place of work under the employer's control, the maintenance of it in a condition that is safe and without risks to health, and the provision and maintenance of means of access to and egress from it that are safe and without such risks; the provision and maintenance of a working environment for his employees that is, so far as is reasonably practicable, safe, without risks to health, and adequate as regards facilities and arrangements for their welfare at work.

(b)

(c)

(d)

(e)

© ABE

Employment Law

241

The scope of the general duty, contained in Section 2 of the 1974 Act, is qualified by the words "reasonably practicable". The meaning of this phrase "reasonably practicable" is, therefore, crucial in determining the scope of an employer's duty. For it would be wrong to assume that it imposes a standard of care comparable with the duty to take reasonable care at common law. The statutory duty requires the employer to take action to ensure health and safety unless, on the facts, it is impracticable in the circumstances. This has been taken to mean that, in determining the scope of general duties, cost-benefit considerations must be taken into account: Edwards v. National Coal Board (1949). In Latimer v. AEC Ltd (1953), oil had spread on the factory floor because of flooding. When an employee slipped and injured himself on a small patch of oil which still remained on the floor, the employer was held not to be liable because he had taken “reasonable” steps to clear up the oil, e.g. by using all available sawdust. What is more, the cost of shutting down the factory for a day outweighed the risk of injury.

Entitlement to Training
On 6 April 2010, a new right to request time off for training was introduced for businesses that employ more than 250 people. This new "Right to Request" will be available to all employees with six months’ service, where they consider that the training will improve both their effectiveness at work and the performance of their employer's business.

Entitlement to Welfare Benefits
Entitlement to many social security benefits is reserved almost exclusively to employees. The National Insurance contribution rates payable under the social security legislation differ as between the employed (under a contract of service) and the self-employed, or independent contractor (under a contract for services) and there are also differences in entitlement to benefits and statutory sick pay. It should be noted that only employees, as payers of Class One National Insurance Contributions, are entitled to, amongst other things:   statutory maternity pay and industrial disablement benefit: In the case of Whittaker v. M.P.N.I. (1967), Ms Whittaker was held to be entitled to industrial disablement benefit because, applying the integration test as expounded by Denning in the case of Stevenson, Jordan & Harrison Ltd v. MacDonald & Evan (1952), the court found that Ms Whittaker was an employee. Consequently, the injured trapeze artist, who fell off her trapeze, was held to be entitled to industrial disablement benefit.

Liability for Taxation
This varies according to whether a person is an “employee” or “self-employed”. Deductions must be made by an employer for income tax under Schedule E (known as PAYE) from salary paid to employees under a contract of service, whereas the self-employed are taxed under Schedule D and are directly responsible to the Inland Revenue for all due deductions. The more favourable tax situation afforded to the self-employed under Schedule D, namely getting your pension contributions and paying less tax (it is possible to offset your liability against reasonable business expenses in most cases) is one of the main attractions of being self-employed: Massey v. Crown Life Insurance (1978). It should be noted that the fact that a worker is responsible for paying their own tax and national insurance is not conclusive as to whether or not they are an employee, irrespective of the fact that such a finding is inconsistent with the employment status of an employee: Ferguson v. John Dawson & Partners (Contractors Ltd (1976).

© ABE

242

Employment Law

Vicarious Liability
An employer is generally vicariously liable for the tortious acts committed by his employees during the “course of their employment”, but such liability is severely restricted in the case of a contract for services. The employer will normally only be liable in such circumstances if he delegated performance to another. Whether or not an employee is 'acting in the course of employment' is a question of fact, as demonstrated by the case of Rose v. Plenty (1976). Moreover, an employer will not avoid being vicariously liable due to the negligence being entirely that of the employee: Century Insurance v. Northern Ireland Road Transport Board (1942). This case involved the driver of a petrol lorry destroying an underground garage after he negligently lit a match on parking up in the said garage. See also: Maga v. Trustees Birmingham Archdiocese (2010).

Protection in the Event of Insolvent Liquidation
Under the Employment Rights Act 1996, an “employee” as defined by Section 230(1) of the Act who loses his job when his employer becomes insolvent can claim, through the National Insurance Fund, arrears of wages, holiday pay and certain other payments which are owed to him, rather than rely on the preferential payments procedure. Any payments so made must be authorised by the Secretary of State for Business Innovation and Skills and the legal rights and remedies in respect of the debts covered are transferred to the Secretary of State, so that he can recover from the assets of the insolvent company the cost of any payments made, up to the preferential rights the employees would have had. There is no qualifying period of continuous service for the above rights.

D. CONTRACT OF EMPLOYMENT
Employment and Self-employment
The legal relationship between employer and employee (or, as it used to be termed, master and servant) is based on the assumption that a contract exists between the two parties. This contract is known as a contract of employment or a contract of service. In most cases, it will be clear whether a person is an employee or self-employed. Nevertheless, there are grey areas which have occupied the attention of the courts for many years. In 1980, the Court of Appeal held that to determine the terms of a contract is a matter of fact, but to determine whether or not these amount to a contract of employment is a matter of law. Following the extension of employment protection legislation over the past 20 years, the courts are probably less inclined to decide that a person is not an employee. This coincides with the approach of the HM Revenue and Customs, which does not look with favour on the greater opportunities for tax avoidance or evasion open to the self-employed. For example, in 1981, the Employment Appeal Tribunal (EAT) held that a bar steward was an employee, although he was appointed "on a self-employed basis" with responsibility for his own tax and national insurance contributions. He also hired and fired the bar staff and took money from the till to pay himself and the other staff. The EAT's approach is summed up in the following: "If you had asked Mr Withers while he was running the club bar 'Are you your own boss?', could he honestly have given any other answer than 'No'? In our judgement, clearly not." The question illustrates the basic test that the courts will often apply in these cases: "Is the person concerned performing services as a person in business on his own account?"

© ABE

Employment Law

243

Moreover, the courts will look at the actual facts of a situation, not at the label which the parties attach to it.

Relations between Employer and Employee
For many years, the relationship between employer and employee was largely regulated by the general law of contract. This situation was changed by the introduction of a new body of statute law. In this chapter, we shall consider mainly the area of individual employment rights which are covered by the Employment Rights Act 1996. The Act amalgamated and consolidated the provisions of earlier Acts on employment rights. It is now the main statute in this sphere. It covers such areas as unfair dismissal, redundancy, maternity rights, and minimum notice, as well as wages provisions under what was previously the Wages Act 1986.

Identifying the Terms of the Contract
As is the case with contracts generally, a contract of employment does not usually need to be in writing in order to be enforceable. Indeed, it is probably the case that most contracts of employment are not expressed fully in written form. This can lead to difficulties if disputes arise and the terms of the contract need to be identified. In such circumstances, the courts will examine one or more of the following sources. (a) Sources of contract terms These include:  minimum statutory standards, such as the minimum notice periods laid down in the Employment Rights Act 1996 – with few exceptions, it is not possible to contract out of such standards express statements of the parties to the contract contained in, for example, letters of appointment, formal contracts, oral statements on terms and conditions, and the "written particulars" specified in the Employment Rights Act 1996 collective agreements between unions and employers which cover the particular circumstances works or company rule books custom in the particular industry or company implied duties of employers and employees.

    (b)

Written particulars In order to partially deal with the difficulty in identifying the terms of an employment contract, Section 1 of the Employment Rights Act 1996 requires an employer to give the employee "written particulars of terms of employment" within two months of starting work. If an employee does not receive such a statement or one that complies with the requirements, he/she can apply to an employment tribunal to determine the particulars which ought to have been included. These include such items as:      names of the parties date of starting work start date of period of continuous employment rate and frequency of remuneration hours of work

© ABE

244

Employment Law

      

holidays sick pay pension entitlements (if any) length of notice title of job disciplinary rules grievance procedures (as amended by the Employment Act 2002 (Dispute Resolution) Regulations; see now the 2009 ACAS Code of Practice on Disciplinary and Grievance Procedures place of work details of any collective agreement which applies to the contract.

 

Not all the information needs to be issued to each individual employee; it is permissible to refer the employee to accessible notices or other documents. If there are less than 20 employees, the employer need not give details of disciplinary procedures. If there is a change in any of the matters, particulars of which are required to be included in the written statement of terms of employment, the employer must give the employee a written statement containing details of the change, on which see Tapere (2009). Certain employees are exempted from the need to be provided with written particulars of employment. These are mainly those in employment outside Great Britain, and mariners. An employee also has the right to be given, by an employer, at or before the time at which any payment of wages or salary is made, a written itemised pay statement, containing details of:     the gross amount of the wages or salary the amount of any deductions from that gross amount and the purposes for which they are made the net amount of wages and salary payable where different parts of the net amount are paid in different ways, and the amount and method of payment of each part-payment.

Although many workers refer to the above particulars as their "contract of employment", it is important to appreciate that they are not a contract but merely evidence of certain terms of the contract, which may, indeed, be contradicted by other evidence.

Implied Terms
Unless the contract expressly provides otherwise, case law implies into every contract of employment the following duties. (a) Duties of employees  To be ready and willing to work An employee must be prepared to work under the direction of the employer in return for the agreed wages. Absence from work without excuse amounts to breach of contract.

© ABE

Employment Law

245

To exercise reasonable skill and care An employee who takes on a job professes his ability to do that job and is required to be not unduly negligent in carrying it out. If he fails in these duties, he is again in breach of contract. This duty is similar to the statutory duty of reasonable care under the Health and Safety at Work Act 1974.

To obey lawful orders An employee must obey the orders of the employer, provided that they are lawful, that they fall within the scope of the contract and that they do not involve exceptional danger. Orders that are genuinely considered by the employee to be contrary to safety may be refused under the Health and Safety at Work Act 1974 as amended, and under the Employment Rights Act 1996; a dismissal for such a reason is automatically unfair.

To act in good faith This covers a number of aspects. For example, an employee must be honest in his/her relationship with his/her employer. He/she must disclose any defect in him/herself which might make him/her employment more hazardous, and must not make a secret profit from his/her employment or work for a competitor while working for his/her main employer. He/she should not do anything which would harm the reputation of the company.

To take care of employer's property If an employee fails to take reasonable care of the employer's property, he/she is required to indemnify the employer against any loss sustained.

To maintain confidentiality during and after employment In Faccenda Chicken Co. v. Fowler (1988), the courts ruled that an employee must not only keep his/her employers' secrets while working for them, but also has a duty not to disclose trade secrets or sensitive commercial information after he/she has left. This is in addition to any clause in restraint of trade (see earlier notes on contract clauses). He/she must keep his/her employers' secrets, and this goes so far as to not reveal information about illegal or unethical practices by the employer (so called "whistle blowing"), for which see: Baluba v. Waltham Forest College 92007); Bolton School v. Evans (2006); Cavendish Munro Professional Risks Management Ltd v. Geduld (2010), unless the revelation is to an enforcement agency such as the Health and Safety Executive in the case of unsafe practices, or the Environment Agency or local environmental health department in the case of pollution issues. Here the employee is protected against dismissal. However, you should note that, unless there are express terms to the contrary, the law will not imply a duty on the employee to devote the whole of his/her services to the work of his/her employer, i.e. it will not impose a ban on "moonlighting", nor will it imply a duty to refrain from political activities: Dell v. London Borough of Tower Hamlets (1994), where an employee was filmed when taking part in a National Front rally and was dismissed; the dismissal was deemed unfair.

© ABE

246

Employment Law

(b)

Duties of employers  To provide work This is particularly significant when the employee is paid under some form of payment by results scheme. There is an obligation on the employer to provide sufficient work to enable the employee to earn reasonable or expected wages.  To pay remuneration The employer is obliged to pay the contractually agreed remuneration and failure to do so constitutes a breach of contract.  To provide for the safety of employees There is a common law obligation on employers to provide a safe system of work. This obligation has been given statutory form in the Health and Safety at Work Act 1974 which we shall discuss in more detail later.  To indemnify employees The employer must reimburse employees against all expenses, losses and liabilities incurred in the execution of orders, or in the reasonable performance of the employment. However, there is no implied term that the employee must be indemnified against his/her own negligence or when obeying an obviously unlawful order.  To give references which are accurate and fair An employer is under no obligation to give a character reference for an employee or former employee, but is under an implied duty not to make untrue statements or to be malicious if a reference is given: Spring v. Guardian Assurance (1994). See also: Cheltenham Borough Council v. Laird (2010).  To maintain trust and confidence The employer has an implied duty to maintain the trust and confidence of the employee and if they do not, then they will be in breach of the contract entitling the employee to resign and claim constructive dismissal (see later). Examples of this include an employer who sought to move an employee from Leeds to Birmingham with no notice or redeployment allowances: Akhtar v. United Bank (1989); an employer who undermined the employee by suggesting he was mentally unstable: Bliss v. South East Thames Regional Health Authority (1987) and not providing training and support to an inexperienced bar manager in a troublesome bar: Smyth v. Croft Inns Ltd (1996).

E. OTHER TERMS AND CONDITIONS
Protection of Wages
Under the Employment Rights Act 1996, certain conditions are imposed on the ability of employers to deduct amounts from employees' wages, and on payments to employers. The nature of the employment is sometimes the determining factor. (a) Deductions by employer An employer shall not make a deduction from the wages of a worker employed by him/her unless:  the deduction is required or authorised to be made by virtue of a statutory provision or a relevant provision of the worker's contract; or

© ABE

Employment Law

247

the worker has previously signified in writing his/her agreement or consent to the making of the deduction.

This restriction does not apply to a deduction from a worker's wages made by his/her employer where the purpose of the deduction is the reimbursement of the employer in respect of:   an overpayment of wages or an overpayment of expenses incurred by the worker in carrying out his/her employment,

made (for any reason) by the employer to the worker. (b) Payments to employer An employer shall not receive a payment from a worker employed by him/her unless:   the payment is required or authorised to be made by virtue of a statutory provision or a relevant provision of the worker's contract or the worker has previously signified in writing his/her agreement or consent to the making of the payment.

This restriction does not apply to a payment received from a worker by his/her employer where the purpose of the payment is the reimbursement of the employer in respect of:   an overpayment of wages or an overpayment in respect of expenses incurred by the worker in carrying out his/her employment,

made (for any reason) by the employer to the worker. (c) Limits on the amount and time of deductions for workers in retail employment If the employer of a worker in retail employment further to the above arrangements makes, on account of one or more cash shortages or stock deficiencies, a deduction or deductions from wages payable to the worker on a pay day, the amount or aggregate amount of the deduction or deductions shall not exceed one-tenth of the gross amount of the wages payable to the worker on that day. (d) Reference to employment tribunals A worker may present a complaint to an employment tribunal:    that his employer has made an unauthorised deduction from his wages that his employer has received an unauthorised payment from him that being in retail employment, his employer has made an unauthorised deduction from his wages.

Where a tribunal finds such a complaint to be well founded, it shall make a declaration to that effect and make an appropriate order against the employer, with which he must comply.

Guarantee Payments
These are provided for by the Employment Rights Act 1996. If, throughout a working day during any part of which an employee would normally be required to work in accordance with the terms of his/her contract of employment, the employee is not provided with work by the employer by reason of:

© ABE

248

Employment Law

 

a diminution in the requirements of the employer's business for work of the kind which the employee is employed to do or any other occurrence affecting the normal working of the employer's business in relation to work of the kind which the employee is employed to do,

the employee is entitled to be paid by the employer an amount in respect of that day (hereinafter referred to as "the guarantee payment"). An employee, however, is not entitled to such a guarantee payment unless he/she has been continuously employed for a period of not less than one month, ending within the day before that in respect of which the guarantee payment is claimed. Neither is an employee who is employed:   under a contract for a fixed term of three months or less or under a contract made in contemplation of the performance of a specific task which is not expected to last for more than three months,

entitled to a guarantee payment, unless he/she has been continuously employed for a period of more than three months, ending with the day before that in respect of which the guarantee payment is claimed. An employee is disentitled from claiming a guarantee payment in respect of a workless day if the failure to provide him/her with work for that day occurs in consequence of a strike, lockout or other industrial action involving any employee of his/her employer or of an associated employer. An employee is also not entitled to a guarantee payment in respect of a workless day if:   his/her employer has offered to provide alternative work for that day which is suitable in all the circumstances and the employee has unreasonably refused that offer.

The amount of a guarantee payment in respect of any day shall not exceed £14.50. Any complaint by an employee relating to guarantee payments may be referred by him/her to an employment tribunal.

Rights Not to Suffer Detriment in Employment
(a) Health and safety cases An employee has the right under the Employment Rights Act 1996 not to be subjected to any detriment by any act, or any deliberate failure to act, by his/her employer done on the ground that:  having been designated by the employer to carry out activities in relation to the prevention or reduction of risks to health and safety at work, the employee carried out any such activities being a representative of workers on matters of health and safety at work or a member of a safety committee, the employee performed any functions as such a representative or a member of such committee where there were no such safety representatives or safety committees, he/she brought to his/her employer's attention, by reasonable means, circumstances connected with his/her work which he/she reasonably believed were harmful or potentially harmful to health or safety in circumstances of danger which the employee reasonably believed to be serious and imminent, he/she took appropriate steps to protect him/herself or

© ABE

Employment Law

249

other persons from the danger or otherwise left or refused to return to his/her place of work or any dangerous part of his/her place of work. (b) Trustees of occupational pension schemes An employee has the right not to be subjected to any detriment by any act, or any deliberate failure to act, by his/her employer done on the ground that, being a trustee of a relevant occupational pension scheme which relates to his employment, the employee performed any functions as such trustee. (c) Employee representatives An employee has the right not to be subjected to any detriment by any act, or any deliberate failure to act, by his/her employer done on the ground that, being:   an employee trade union representative or a candidate in an election in which any person elected will, on being elected, be such an employee trade union representative,

he/she performed any functions or activities as such an employee trade union representative or candidate. (d) Enforcement An employee may present a complaint to an employment tribunal that he/she has been subjected to a detriment in contravention of any of the above provisions.

Time Off Work
An employee has the right under the Employment Rights Act 1996 to be permitted by his/her employer to take time off during the employee's working hours to discharge the office of justice of the peace. He/she also has the right to take such time off work to discharge his/her public duties as a member of:     a local or police authority or statutory tribunal a relevant health or education body the environment agency or the Scottish Environment Protection Agency or a board of prison visitors or a prison visiting committee.

An employee also has the right, if he/she has been given notice of dismissal by reason of redundancy, to be permitted by his/her employer to take reasonable time off during working hours before the end of his/her notice to:   look for new employment make arrangements for training for future employment,

subject to a condition that he/she must have been continuously employed for a period of two years or more prior to the expiry of his/her notice. He/she is entitled to be paid for the time so taken off and has a right to lodge a complaint with an employment tribunal for non-compliance with these provisions by the employer. Similar provisions provide for time off work by a qualifying employee in respect of:    ante-natal care trustee membership of an occupational pension scheme appointment as an employee representative for the purposes of the Trade Union and Labour Relations (Consolidation) Act 1992 or an election as candidate for such appointment.

© ABE

250

Employment Law

Suspension From Work
(a) Suspension on medical grounds An employee who is suspended from work by his employer on medical grounds is entitled to be paid remuneration by his employer while he is so suspended for a period not exceeding 26 weeks, provided that he has been continuously employed for a period of no less than one month, ending with the day before that on which the suspension began: Employment Rights Act 1996. An employee who is employed:   under a contract for a fixed term of three months or less or under a contract made in contemplation of the performance of a specific task which is not expected to last for more than three months,

is not entitled to the above remuneration, unless he/she has been continuously employed for a period of more than three months, ending with the day before that on which the suspension began. (b) Suspension on maternity grounds An employee is suspended from work on maternity grounds if, in consequence of any relevant requirement or relevant recommendation, she is suspended from work by her employer on the ground that she is pregnant, has recently given birth or is breastfeeding a child. An employee who is suspended from work on maternity grounds is entitled to be paid remuneration in accordance with the provisions in the Employment Rights Act 1996 by her employer while she is so suspended. Where an employer has available suitable alternative work for an employee, the employee has a right to be offered to be provided with the alternative work before being suspended from work on maternity grounds. "Alternative work" for this purpose is as defined in the Act. An employee is entitled to lodge a complaint with an employment tribunal in relation to unauthorised suspension from work.

Maternity and Other Parental and Family Rights
Certain rights relating to pregnancy and maternity have been granted to female employees by statute. Briefly, these are as follows. (a) Ante-natal care The Employment Act 1980 (as amended by the Employment Act 2002 and the Work and Families Act 2006) introduced a right to paid time off during working hours for ante-natal care. This is now embodied in the Employment Rights Act 1996. There is no qualifying period of service needed; a pregnant woman who joins a new employer is immediately entitled to this right. (b) Maternity pay Statutory Maternity Pay is payable for a nine-month period. Subject to meeting certain conditions, a woman can claim from her employer a weekly payment, for a period of six weeks, of 90% of a week's pay, less the amount of the state maternity allowance. For the remaining 20 weeks, the pay amounts to either 90% of her usual weekly pay or a prescribed annually reviewed rate, whichever is the lowest. The employer can reclaim the amount paid from the state Maternity Fund.

© ABE

Employment Law

251

(c)

Maternity leave An employee who is absent from work at any time during her maternity leave period is, subject to notification of leave commencement and pregnancy, entitled to the benefit of the terms and conditions of employment which would have been applicable to her if she had not been absent through pregnancy and childbirth. An employee's maternity leave period commences with the earlier of:   the date she notifies her employer on which she intends her period of absence from work on account of pregnancy to commence and the first day after the beginning of the sixth week before the expected week of childbirth on which she is absent from work wholly or partly because of pregnancy.

The above right does not per se confer any right to remuneration. Since April 2007, all pregnant women, regardless of length of service or hours of work, are entitled to 52 weeks' maternity leave. An employee who has both the right to maternity leave under the provisions of the Employment Rights Act 1996 and another right to maternity leave under a contract of employment or otherwise may not exercise the two rights separately but may, in taking maternity leave, take advantage of whichever right is, in any particular respect, the more favourable. An employee's maternity leave period continues, subject to conditions specified in the Act, for the period of 18 weeks from its commencement or until the birth of the child, if later. For post-maternity leave, see: Blunder v. St Andrew’s Catholic Primary School (2007). (d) Right to return to work An employee who acquires the above statutory right to maternity leave also has the right to return to work at any time during the period beginning at the end of her maternity leave period and ending 29 weeks after the beginning of the week in which childbirth occurs. Her terms and conditions of employment must be no less favourable than they were on commencement of her maternity leave period and her seniority and pension rights must be preserved. Under certain circumstances, suitable alternative employment can be offered and there are less onerous obligations on small employers (those with five or fewer employees). If a woman is refused her job back, she can claim for unfair dismissal. A woman who is unable to return to work may be suspended from work on guaranteed pay until she is fit to return. In addition to the rights and protection offered to pregnant women, recent legislation has also provided rights for parents in general (i.e. for fathers as well as mothers), including in respect of adoption, and also for carers.  The Employment Relations Act 1999 implemented a Parental Leave Directive, allowing an employee, with at least one year's continuity of service, the right to up to 13 weeks' unpaid leave to care for a child for whom he/she has or expects to have parental responsibility. Such a right lasts up to that child's fifth birthday and applies to every child for whom parental responsibility is claimed. The employee taking such leave has the right to return to his/her old job, with the usual protection afforded from unfair dismissal and redundancy.  The Paternity and Adoption Leave Regulations 2002, together with the provisions of the Work and Families Act 2006, introduced the right to paternity and adoption leave for up to 26 weeks, which have been extended from April 2007 to 52 weeks.

© ABE

252

Employment Law

The right to request flexible working, introduced by the Employment Act 2002, allows qualifying employees (of 26 weeks' continuous service) to apply to an employer for a change in the terms and conditions of employment, in order to care for a child for whom the employee has responsibility. The Work and Families Act 2006 extended this right to those caring for an adult spouse, partner, civil partner or near relative.

Holidays
Periods of paid holiday have tended to increase, particularly for manual workers. As in the case of sick pay, differences in holiday entitlements have been one of the distinguishing features between "staff" and "non-staff" employment. In many schemes, holiday entitlement is based on length of service and on seniority. Apart from entitlement, holiday schemes also cover such points as rates of holiday pay and the periods of the year during which holidays may be taken. The Working Time Directive of the European Union, effective in the United Kingdom from 1 October 1998, gives all workers covered by the Directive a statutory entitlement to a minimum of four weeks' paid holiday in each year. No employer can refuse this entitlement and it cannot be bought out by a payment in lieu of holidays.

Paternity Leave
The Government has introduced additional paternity leave and pay, in relation to parents of children due on or after 3 April 2011. Essentially, mothers will be able to transfer some or all of the second half of their maternity leave period. Mothers who have maternity leave outstanding in the second six months of the child's life will be able to transfer that leave to the father upon her return to work. Up to three months' additional paternity leave (APL) will be paid at the same rate as statutory maternity pay (SMP) if the leave is taken during the mother's 39-week maternity pay period; the remainder will be unpaid. The Council of the EU has agreed to a Commission proposal to amend the Parental Leave Directive. Most of the changes will have no impact in the UK, as existing domestic provisions are already compliant with the changes. The one area that will be affected is the extension, from three to four months, of the length of the existing right to take parental leave, with a twoyear period for implementation in the UK.

Notice
If a contract of employment is for a specified period, the employment ceases at the end of that period without notice. If the contract is not for a definite period then, if either party wishes to end it, they must give the period of notice specified in the contract. If no period of notice is expressly stated, the period of notice required is that which is customary in the trade or reasonable in the circumstances. A court will decide the latter point, in view of such factors as the nature of the work and the intervals at which wages are paid. If a contract is terminated without notice, the injured party may sue the other party to the contract for whatever damages he/she has suffered. In practice, this is most likely to occur when an employer dismisses an employee without giving the required notice. It is most unusual, but not completely unknown, for an employer to sue an employee under these circumstances.

© ABE

Sign up to vote on this title
UsefulNot useful